Pappy’s Potato has come up with a new product, the Potato Pet (they are freeze-d
ID: 2758415 • Letter: P
Question
Pappy’s Potato has come up with a new product, the Potato Pet (they are freeze-dried to last longer). Pappy’s paid $137,000 for a marketing survey to determine the viability of the product. It is felt that Potato Pet will generate sales of $592,000 per year. The fixed costs associated with this will be $196,000 per year, and variable costs will amount to 22 percent of sales. The equipment necessary for production of the Potato Pet will cost $654,000 and will be depreciated in a straight-line manner for the four years of the product life (as with all fads, it is felt the sales will end quickly). This is the only initial cost for the production. Pappy’s is in a 30 percent tax bracket and has a required return of 14 percent. Requirement 1: Calculate the payback period for this project
Calculate the NPV for this project. (Do not round intermediate calculations. Round your answer to 2 decimal places (e.g., 32.16).)
Calculate the IRR for this project. (
Requirement 2:Calculate the NPV for this project. (Do not round intermediate calculations. Round your answer to 2 decimal places (e.g., 32.16).)
Explanation / Answer
Sales= $592,000
Less: Variable Cost@22%= 22%*592,000= $130,240
Contribution= $461,760
Less: Fixed Cost= 196,000
Profit Before Dep. & Tax(A)= $265,760
Less: Depreciation= 654,000/4= $163,500
Profit Before Tax= $102,260
Less: Tax @30% (B)= 30,678
Cash Flow per year=(A)-(B) = $235,082
Present value of cash inflows= 235,082*Present Value Annuity Factor= 235,082*2.91=$684,089
Present value of cash outflow= $654,000
NPV= $30,089
NPV @17% interest rate
Present value of cash inflows= 235,082*Present Value Annuity Factor= 235,082*2.74=$644,125
Present value of cash outflow= $654,000
NPV= $(9,875)
IRR= 14%+ 3%/(30089-(9875))* 30089= 16.26%
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