Question

McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $750 per set and have a variable cost of $350 per set. The company has spent $145,000 for a marketing study that determined the company will sell 57,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 9,000 sets of its high-priced clubs. The high-priced clubs sell at $1,050 and have variable costs of $650. The company will also increase sales of its cheap clubs by 10,500 sets. The cheap clubs sell for $390 and have variable costs of $205 per set. The fixed costs each year will be $9,050,000. The company has also spent $1,060,000 on research and development for the new clubs. The plant and equipment required will cost $28,350,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,250,000 that will be returned at the end of the project. The tax rate is 40 percent, and the cost of capital is 10 percent. Suppose you feel that the values are accurate to within only ±10 percent. What are the best-case and worst-case NPVs? (Hint: The price and variable costs for the two existing sets of clubs are known with certainty; only the sales gained or lost are uncertain.) (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

NPV Best-case $

Worst-case $

Answer 1

Base case			Best Case			Worst case
New clubs			New clubs			New clubs
No.of sets	57000		No.of sets	57000		No.of sets	57000
Selling price/set	750		Selling price/set	750		Selling price/set	750
Variable cost/set	350		Variable cost/set	350		Variable cost/set	350
Incl. income	400		Incl. income	400		Incl. income	400
1.Total incl.income	22800000		Total incl.income	22800000		Total incl.income	22800000
Loss of income from high-priced clubs
No.of sets	9000		No.of sets	8100		No.of sets	9900
Selling price/set	1050		Selling price/set	1050		Selling price/set	1050
Variable cost/set	650		Variable cost/set	650		Variable cost/set	650
income lost	400		income lost	400		income lost	400
2.Total incl.income lost	-3600000		Total incl.income lost	-3240000		Total incl.income lost	-3960000
Increased sale of cheap clubs
No.of sets	10500		No.of sets	11550		No.of sets	9450
Selling price/set	390		Selling price/set	390		Selling price/set	390
Variable cost/set	205		Variable cost/set	205		Variable cost/set	205
Inc. income /set	185		Inc. income /set	185		Inc. income /set	185
3.Total incl.income	1942500		Total incl.income	2136750		Total incl.income	1748250
4.Fixed costs	-9050000		Fixed costs	-9050000		Fixed costs	-9050000
5.Incl. Income(1+2+3+4)	12092500		Incl. Income	12646750		Incl. Income	11538250
6.Incl.Tax at 40%*Incl.Income	-4837000		Incl.Tax at 40%*Incl.Income	-5058700		Incl.Tax at 40%*Incl.Income	-4615300
7.Incl.EAT(5-6)	7255500		Incl.EAT	7588050		Incl.EAT	6922950
Add: Depn. Tax shield(28350000/7*40%)	1620000		Add: Depn. Tax shield(28350000/7*40%)	1620000		Add: Depn. Tax shield(28350000/7*40%)	1620000
Annual Operating cash flow	8875500		Annual Operating cash flow	9208050		Annual Operating cash flow	8542950
P/A,10%,7 yrs.	4.86842		P/A,10%,7 yrs.	4.86842		P/A,10%,7 yrs.	4.86842
9.PV of 7 yrs.' OCF	43209662		PV of 7 yrs.' OCF	44828655		PV of 7 yrs.' OCF	41590669
10.Initial Investment	-28350000		Initial Investment	-28350000		Initial Investment	-28350000
11.Initial NWC	-1250000		Initial NWC	-1250000		Initial NWC	-1250000
NWC recovered	1250000		NWC recovered	1250000		NWC recovered	1250000
P/F,10%,yr.7	0.51316		P/F,10%,yr.7	0.51316		P/F,10%,yr.7	0.51316
12.PV of NWC recovered	641448		PV of NWC rec.	641448		PV of NWC rec.	641448
NPV of Base case(9+10+11+12)	14251109		NPV of Best case	15870102		NPV of Worst case	12632116
NPV Best-case ($)	15870102
Worst-case($)	12632116