Question

McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $780 per set and have a variable cost of $380 per set. The company has spent $148,000 for a marketing study that determined the company will sell 52,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 9,300 sets of its high-priced clubs. The high-priced clubs sell at $1,080 and have variable costs of $680. The company will also increase sales of its cheap clubs by 10,800 sets. The cheap clubs sell for $420 and have variable costs of $220 per set. The fixed costs each year will be $9,080,000. The company has also spent $1,090,000 on research and development for the new clubs. The plant and equipment required will cost $28,560,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,280,000 that will be returned at the end of the project. The tax rate is 36 percent, and the cost of capital is 10 percent Calculate the payback period. (Do not round intermediate calculations. Round your answer to 3 decimal places, e.g., 32.161.) Payback period years Calculate the NPV. (Do not round intermediate calculations. Round your answer to 2 decimal places, e.g., 32.16.) $ NPV Calculate the IRR. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) IRR

Answer 1

Profit=New line sales*(selling price-variable cost)-decrease in High price line sales*(selling price

-variable cost)+increase in cheap line sales*(selling price-variable cost)

=52000*(780-380)-9300*(1080-680)+10800*(420-220)

=19240000

Time line		0	1	2	3	4	5	6	7
Cost of new machine		-28560000
Initial working capital		-1280000
=Initial Investment outlay		-29840000
Profits			19240000	19240000	19240000	19240000	19240000	19240000	19240000
Fixed cost			-9080000	-9080000	-9080000	-9080000	-9080000	-9080000	-9080000
-Depreciation	Cost of equipment/no. of years		-4080000	-4080000	-4080000	-4080000	-4080000	-4080000	-4080000
=Pretax cash flows			6080000	6080000	6080000	6080000	6080000	6080000	6080000
-taxes	=(Pretax cash flows)*(1-tax)		3891200	3891200	3891200	3891200	3891200	3891200	3891200
+Depreciation			4080000	4080000	4080000	4080000	4080000	4080000	4080000
=after tax operating cash flow			7971200	7971200	7971200	7971200	7971200	7971200	7971200
reversal of working capital									1280000
+Tax shield on salvage book value	=Salvage value * tax rate								0
=Terminal year after tax cash flows									1280000
Total Cash flow for the period		-29840000	7971200	7971200	7971200	7971200	7971200	7971200	9251200

golf club
Year	Cash flow stream	Cumulative cash flow
0	-29840000	-3E+07
1	7971200	-2.2E+07
2	7971200	-1.4E+07
3	7971200	-5926400
4	7971200	2044800
5	7971200	10016000
6	7971200	17987200
7	9251200	27238400
Payback period is the time by which undiscounted cashflow cover the intial investment outlay
this is happening between year 3 and 4
therefore by interpolation payback period = 3 + (0-(-5926400))/(2044800-(-5926400))
3.74 Years
golf club
Discount rate	0.1
Year	0	1	2	3	4	5	6	7
Cash flow stream	-29840000	7971200	7971200	7971200	7971200	7971200	7971200	9251200
Discounting factor	1	1.1	1.21	1.331	1.4641	1.61051	1.771561	1.948717
Discounted cash flows project	-29840000	7246545	6587769	5988881	5444436.9	4949488	4499535	4747328
NPV = Sum of discounted cash flows
NPV golf club =	9623982.47
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
golf club
IRR is the rate at which NPV =0
IRR	0.190918622
Year	0	1	2	3	4	5	6	7
Cash flow stream	-29840000	7971200	7971200	7971200	7971200	7971200	7971200	9251200
Discounting factor	1	1.190919	1.418287	1.689065	2.0115385	2.395579	2.852939	3.397618
Discounted cash flows project	-29840000	6693320	5620300	4719298	3962738	3327463	2794031	2722848
NPV = Sum of discounted cash flows
NPV golf club =	4.43077E-06
Where
Discounting factor =	(1 + IRR)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
IRR=	19%