O\'Bannon Electronics has an investment opportunity to produce a new HDTV. The r
ID: 2819671 • Letter: O
Question
O'Bannon Electronics has an investment opportunity to produce a new HDTV. The required investment on January 1 of this year is $190 million. The firm will depreciate the investment to zero using the straight-line method over four years. The investment has no resale value after completion of the project. The firm is in the 34 percent tax bracket. The price of the product will be $535 per unit, in real terms, and will not change over the life of the project. Labor costs for Year 1 will be $15.85 per hour, in real terms, and will increase at 2 percent per year in real terms. Energy costs for Year 1 will be $4.20 per physical unit, in real terms, and will increase at 3 percent per year in real terms. The inflation rate is 5 percent per year. Revenues are received and costs are paid at year-end. Refer to the following table for the production schedule:
Calculate the NPV of this project. (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
O'Bannon Electronics has an investment opportunity to produce a new HDTV. The required investment on January 1 of this year is $190 million. The firm will depreciate the investment to zero using the straight-line method over four years. The investment has no resale value after completion of the project. The firm is in the 34 percent tax bracket. The price of the product will be $535 per unit, in real terms, and will not change over the life of the project. Labor costs for Year 1 will be $15.85 per hour, in real terms, and will increase at 2 percent per year in real terms. Energy costs for Year 1 will be $4.20 per physical unit, in real terms, and will increase at 3 percent per year in real terms. The inflation rate is 5 percent per year. Revenues are received and costs are paid at year-end. Refer to the following table for the production schedule:
Explanation / Answer
Sales = Physical Production x Price, where Price is constant for the entire project
Labor Cost = Labor input x Cost per hour, where cost per hour increases by 2% each year.
Energy Cost = Energy input x Cost per hour, where cost per hour increases by 3% each year.
Depreciation = Investment / No. of years
Cash Flow = Investment + Net Income + Depreciation
NPV can be calculated using NPV function in excel or using formula with 4% discount rate.
NPV = - CF0 + CF1 / (1 + r) + CF2 / (1 + r)^2 + CF3 / (1 + r)^3 + CF4 / (1 + r)^4
Here, we have considered all values in real terms and hence, inflation is not considered in the analysis.
Year 0 1 2 3 4 Physical production, in units 155,000 165,000 185,000 175,000 Labor input, in hours 1,160,000 1,240,000 1,400,000 1,320,000 Energy input, physical units 250,000 270,000 290,000 275,000 Investment -190,000,000 Sales 82,925,000 88,275,000 98,975,000 93,625,000 Labor Cost 18,386,000 20,047,080 23,086,476 22,202,594 Energy Costs 1,050,000 1,168,020 1,292,176 1,262,100 Depreciation 47,500,000 47,500,000 47,500,000 47,500,000 EBT 15,989,000 19,559,900 27,096,348 22,660,307 Tax (34%) 5,436,260 6,650,366 9,212,758 7,704,504 Net Income 10,552,740 12,909,534 17,883,590 14,955,802 Cash Flows -190,000,000 58,052,740 60,409,534 65,383,590 62,455,802 NPV 33,185,206.89Related Questions
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