Chapter 13. solution to ch 13-11 build a model

Chapter 13.  Solution to Ch 13-11 Build a Model
                           
Webmasters.com has developed a powerful new server that would be used for corporations’ Internet activities.  It would cost $10 million to buy the equipment necessary to manufacture the server, and it would require net working capital equal to 10% of sales.  The servers would sell for $24,000 per unit, and Webmasters believes that variable costs would amount to $17,500 per unit.  After the first year, the sales price and variable costs would increase at the inflation rate of 3%.  The company’s fixed costs would be $1 million per year, and would increase with inflation. It would take one year to buy the required equipment and set up operations, and the server project would have a life of 4 years.  If the project is undertaken, it must be continued for the entire 4 years.  Also, the project’s returns are expected to be highly correlated with returns on the firm’s other assets.  The firm believes it could sell 1,000 units per year.
                               
     The equipment would be depreciated over a 5-year period, using MACRS rates.  The estimated market value of the equipment at the end of the project’s 4-year life is $500,000.  Webmasters’ federal-plus-state tax rate is 40%.  Its cost of capital is 10% for average risk projects, defined as projects with a coefficient of variation for NPV between 0.8 and 1.2.  Low risk projects are evaluated with a WACC of 8%, and high risk projects at 13%.
                               
a.  Develop a spreadsheet model and use it to find the project’s NPV, IRR, and payback. 
                        Key Output:       NPV  =     
Part 1.  Input Data (in thousands of dollars)                  IRR    =     
                              MIRR =     
Equipment  cost        $10.000                    
Net Operating WC/sales    10%        Market value of equipment in 2006    $500
First year sales (in units)    1.000         Tax rate            40%
Sales price per unit        $24.00        WACC            10%
Variable cost per unit        $17.50        Inflation            3.0%
Fixed costs            $1.000                   
                               
Part 2.  Depreciation and Amortization Schedule    Years    Accum’d
Year            Initial Cost    1     2     3     4     Depr’n
                               
Equipment Depr’n Rate                20.0%    32.0%    19.0%    12.0%   
Equipment Depr’n, Dollars                                      
Ending Bk Val: Cost – Accum Dep’rn                                        
                               
Part 3.  Net Salvage Values, in Year 4            Equipment           
Estimated Market Value in Year 4                        
Book Value in Year 4                            
Expected Gain or Loss                            
Taxes paid or tax credit                            
Net cash flow from salvage                        
                               
Part 4.  Projected Net Cash Flows (Time line of annual cash flows)           
        Years    0     1     2     3     4
     Investment Outlays at Time Zero:                       
Equipment                                
                               
     Operating Cash Flows over the Project’s Life:                   
Units sold                                    
Sales price                                    
Variable costs                                
                               
Sales revenue                                
Variable costs                                
Fixed operating costs                                
Depreciation (equipment)                            
Oper. income before taxes (EBIT)                            
Taxes on operating income (40%)                            
Net Operating Profit After Taxes (NOPAT)                        
Add back depreciation                                
         Operating cash flow                            
                               
     Terminal Year Cash Flows:                       
Required level of net operating working capital    $0     $0     $0     $0     $0
Required investment in NOWC        $0     $0     $0     $0     $0
                               
     Terminal Year Cash Flows:                       
Net salvage value                            0
                                     
Net Cash Flow (Time line of cash flows)    $0     $0     $0     $0     $0
                               
Part 5.  Key Output:  Appraisal of the Proposed Project               
                               
Net Present Value (at 10%)    $0                    
IRR            #NUM!                   
MIRR            #DIV/0!                   
                               
Payback (See calculation below)    0.00                          
                               
Data for Payback    Years        0    1    2    3    4
                Cumulative CF from Row 53    0     0     0     0     0
                IF Function to find payback        FALSE    FALSE    FALSE    FALSE
                               
                               
b.  Now conduct a sensitivity analysis to determine the sensitivity of NPV to changes in the sales price, variable costs per unit, and number of units sold.  Set these variables’ values at 10% and 20% above and below their base case    values.  Include a graph in your analysis.

                               
Part 6.  Evaluating Risk:  Sensitivity Analysis                   
                               
I.  Sensitivity of NPV to Changes in Inputs.   Here we use an Excel “Data Table” to find NPV    different unit sales, holding other thing constant.

                               
% Deviation    1st YEAR UNIT SALES        % Deviation    WACC       
from    Units    NPV        from         NPV       
Base Case    Sold    $0        Base Case    WACC    0        
-20%                 800     $0        -20%    8.0%    $0       
-10%                 900     $0        -10%    9.0%    $0       
0%   
          1.000
    $0        0%    10.0%    $0       
10%              1.100     $0        10%    11.0%    $0       
20%              1.200     $0        20%    12.0%    $0       
                               
% Deviation    VARIABLE COSTS        % Deviation    SALES PRICE       
from    Variable    NPV        from    Sales    NPV       
Base Case    Costs    $0        Base Case    Price    $0       
-20%    $14.00    $0        -20%    $19.20    $0       
-10%    $15.75    $0        -10%    $21.60    $0       
0%    $17.50    $0        0%    $24.00    $0       
10%    $19.25    $0        10%    $26.40    $0       
20%    $21.00    $0        20%    $28.80    $0       
                               
% Deviation    FIXED COSTS        Note about data tables.  The data in the column input should NOT be input using a cell reference to the column input cell.  For example the base case number of units sold in cell B104 should be the number 1000; you should NOT have the formula =D29 in that cell.  This is because you’ll use D29 as the column input cell in the data table and if Excel tries to iteratively replace cell D29 with the formula =D29 rather than a series of numbers, Excel will calculate the wrong answer.  Unfortunately, Excel won’t tell you that there is a problem, so you’ll just get the wrong values for the data table!
from    Fixed    NPV       
Base Case    Costs    $0       
-20%    $800    $0       
-10%    $900    $0       
0%    $1.000    $0       
10%    $1.100    $0       
20%    $1.200    $0       
                                         
    Deviation    NPV at Different Deviations from Base       
    from    Sales    Variable         Fixed            
    Base Case    Price    Cost/Unit    Units Sold    Cost    WACC       
    -20%    $0     $0     $0     $0     $0        
    -10%    $0     $0     $0     $0     $0        
    0%    $0     $0     $0     $0     $0        
    10%    $0     $0     $0     $0     $0        
    20%    $0     $0     $0     $0     $0        
                                     
    Range    0     0     0     0     0        

c.  Now conduct a scenario analysis.  Assume that there is a 25% probability that “best case” conditions, with each of   the variables discussed in Part b being 20% better than its base case value, will occur.  There is a 25% probability of “worst case” conditions, with the variables 20% worse than base, and a 50% probability of base case conditions.
Part 7.  Evaluating Risk:  Scenario Analysis                Squared   
                             Deviation   
             Sales    Unit    Variable        Times   
Scenario    Probability    Price    Sales    Costs    NPV    Probability   
                                 
Best Case    25%    $28.80     1.200     $14.00             
Base Case    50%    $24.00     1.000     $17.50             
    Worst Case     25%    $19.20    800    $21.00             
                                
         Expected NPV = sum, prob times NPV        $0        
         Standard Deviation  = Sq Root of column H sum    $0        
         Coefficient of Variation = Std Dev / Expected NPV    #DIV/0!       
                               
d.  If the project appears to be more or less risky than an average project, find its risk-adjusted NPV, IRR, and payback.

                               
With the high CV, we must re-evaluate the project using a higher WACC, 13%.  That results in:                               
    Risk adjusted NPV =                            
    IRR =                            
    Payback =                            
                               
e.  Based on the information in the problem, would you recommend that the project be accepted?

Calculate your paper price
Pages (550 words)
Approximate price: -

Why Choose Us

Quality Papers

We value our clients. For this reason, we ensure that each paper is written carefully as per the instructions provided by the client. Our editing team also checks all the papers to ensure that they have been completed as per the expectations.

Professional Academic Writers

Over the years, our Acme Homework has managed to secure the most qualified, reliable and experienced team of writers. The company has also ensured continued training and development of the team members to ensure that it keep up with the rising Academic Trends.

Affordable Prices

Our prices are fairly priced in such a way that ensures affordability. Additionally, you can get a free price quotation by clicking on the "Place Order" button.

On-Time delivery

We pay strict attention on deadlines. For this reason, we ensure that all papers are submitted earlier, even before the deadline indicated by the customer. For this reason, the client can go through the work and review everything.

100% Originality

At Essay USA, all papers are plagiarism-free as they are written from scratch. We have taken strict measures to ensure that there is no similarity on all papers and that citations are included as per the standards set.

Customer Support 24/7

Our support team is readily available to provide any guidance/help on our platform at any time of the day/night. Feel free to contact us via the Chat window or support email: support@acmehomework.com.

Try it now!

Calculate the price of your order

We'll send you the first draft for approval by at
Total price:
$0.00

How it works?

Follow these simple steps to get your paper done

Place your order

Fill in the order form and provide all details of your assignment.

Proceed with the payment

Choose the payment system that suits you most.

Receive the final file

Once your paper is ready, we will email it to you.

Our Services

Essay USA has stood as the world’s leading custom essay writing services providers. Once you enter all the details in the order form under the place order button, the rest is up to us.

Essays

Essay Writing Services

At Essay USA, we prioritize on all aspects that bring about a good grade such as impeccable grammar, proper structure, zero-plagiarism and conformance to guidelines. Our experienced team of writers will help you completed your essays and other assignments.

Admissions

Admission and Business Papers

Be assured that you’ll definitely get accepted to the Master’s level program at any university once you enter all the details in the order form. We won’t leave you here; we will also help you secure a good position in your aspired workplace by creating an outstanding resume or portfolio once you place an order.

Editing

Editing and Proofreading

Our skilled editing and writing team will help you restructure you paper, paraphrase, correct grammar and replace plagiarized sections on your paper just on time. The service is geared toward eliminating any mistakes and rather enhancing better quality.

Coursework

Technical papers

We have writers in almost all fields including the most technical fields. You don’t have to worry about the complexity of your paper. Simply enter as much details as possible in the place order section.