The management team has found a company that can provide an improved computer. With this improvement, the management team believes the company’s revenues will increase in the first year by $25 million, by $7 million in the second year, then by $2 million per year in years three, four and five. The charge for the improved capability will cost Tesla $100 million (including license fee) in the first year, with a flat license and maintenance fee of $10 million in years two through five. The team accounted for inflation in their figures and is very confident of the estimated costs and revenue.
The President wants you to look at these figures and advise him on a decision. Assume that Tesla’s CFO can borrow money at a rate of 5% per year, and that rate holds over the life of this project. All costs come at the end of the year.
Company should accept the project is the present value from the project is positive
| Year | Revenue | Improvement charges | Maintenance charges and fees | Net cash flows | Present value factor at 5 % |
Amount |
| 1 | 25 | (100) | - | 75 | 0.9524 | (71.43) |
| 2 | 32 | - | (10) | 22 | 0.9070 | 19.95 |
| 3 | 34 | - | (10) | 24 | 0.8638 | 20.73 |
| 4 | 36 | - | (10) | 26 | 0.8227 | 21.39 |
| 5 | 38 | - | (10) | 28 | 0.7835 | 21.94 |
| Total | 12.58 |
Since the present value is positive company should accept the project
The President of Tesla was really impressed by your analysis on market reactions and wants more...
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