Question

CHAPTER CASE CONCH REPUBLIC ELECTRONICS C onch Republic Electronics is a midsizad olectron- los manufacturer located in Key West, Florida. The company president is Shelly Couts, who inherited the company. The company originally repaired radios and other household appliances when it was founded over 70 years ago. Over the years, the company has expanded, and it is now a reputable manufacturer of various specialty electronic items. Jay McCanless, a recent MBA graduate, has been hired by the com- pany in its finance department. One of the major revenue-producing items manu- factured by Conch Republic is a smart phone. Conch Republic currenty has one smart phone model on the market and sales have been excellent. The smart phone is a unique item in that it comes in a variety of tropical colors and is preprogrammed to play Jimmy Buffett music. However, as with any electronic Item, technology changes rapidly, and the current smart phone has limited features in comparison with newer modelo. Conch Republic spent $750,000 to develop a prototype for a new smart phone that has all the features of the existing one but adds new features such as wifi tethering. The company has spent a fun ther $200,000 for a marketing study to determine the expected sales figures for the new smart phone, Conch Republic can manufacture the new smart phone for $199 each in variable costs. Fixed costs for the operation are estimated to run $5.5 Million per year. The estimated sales volume is 115,000, 115,000, 90,000, 75,000, and 54,000 per year for the next five years, respectively. The unit price of the new smart phone will be $485. The necessary equipment can be purchased for $60 Million and will be depreciated on a seven-year MACRS schedule. It is believed the value of the equipment in five years will be $6.25 Million Net working capital for the smart phones will be 22 percent of sales and will occur with the time of cash flows for the year (i.e. there is no Initial outlay for NWC). Changes in NWC will thus first occur in Year 1 with the first year's sales. Conch Republic has a 22 percent tax rate and a required return of 12 percent. Shelly has asked day to prepare a report that answer the following questions: OESTEL

Answer 1

		Present Value of Cash Flow;
		(Cash Flow)/((1+i)^N)
		i=discount Rate=Required rate of return=12%=0.12
		N=Year of cash Flow
		NOTE:Amount Spent in Prototype development($750000) and Marketing Study($200000) are Sunk Costs
		These costs are not Relevant for this analysis
		7 year MACRS
		Equipment Cost=$60,000,000
			A	B=A*$60,000,000	C
			Depreciation	Amount of	Accumulated
		Year	Rate	Depreciation	Depreciation
		1	0.1429	$8,574,000	$8,574,000
		2	0.2449	$14,694,000	$23,268,000
		3	0.1749	$10,494,000	$33,762,000
		4	0.1249	$7,494,000	$41,256,000
		5	0.0893	$5,358,000	$46,614,000
		Book value at end of 5 years	$13,386,000	(60000000-45614000)
		Salvage Value	$6,250,000
		Loss on Salvage	$7,136,000
	TAX RATE=22%	Tax Saving on loss on salvage=3189350*22%	$1,569,920
		TerminalCash Flow on Salvage	$7,819,920	(6250000+1569920)
	N	Year	0	1	2	3	4	5	6
	a	Equipment Installed Cost	($60,000,000)
		Operations:
	.(1)	Sales in units		115000	115000	90000	75000	54000
	.(2)	Price per unit		$485	$485	$485	$485	$485
	.(1)*(2)	Sales Revenue		$55,775,000	$55,775,000	$43,650,000	$36,375,000	$26,190,000	$0
	.(1)*$199	Variable Production Costs		-$22,885,000	-$22,885,000	-$17,910,000	-$14,925,000	-$10,746,000
		Total Fixed Costs (excluding depreciation)		($5,500,000)	($5,500,000)	($5,500,000)	($5,500,000)	($5,500,000)
		Depreciation		-$8,574,000	-$14,694,000	-$10,494,000	-$7,494,000	-$5,358,000
		Earning Before Taxes		$18,816,000	$12,696,000	$9,746,000	$8,456,000	$4,586,000
		Taxes(22%)		-$4,139,520	-$2,793,120	-$2,144,120	-$1,860,320	-$1,008,920
		Net Income/(Loss)		$14,676,480	$9,902,880	$7,601,880	$6,595,680	$3,577,080
		Add back depreciation		$8,574,000	$14,694,000	$10,494,000	$7,494,000	$5,358,000
	b	Total Operating Cash Flow		$23,250,480	$24,596,880	$18,095,880	$14,089,680	$8,935,080
		Net Working Capital(22% of Sales Revenue)		$12,270,500	$12,270,500	$9,603,000	$8,002,500	$5,761,800	$0
	3)	Working Capital Cash Flow		($12,270,500)	$0	$2,667,500	$1,600,500	$2,240,700	$5,761,800
	4)	Cash Flow on salvage						$7,819,920
	CF=a+b+3)+4)	PROJECT NET CASH FLOW	($60,000,000)	$10,979,980	$24,596,880	$20,763,380	$15,690,180	$18,995,700	$5,761,800
		Cumulative Cash Flow	($60,000,000)	($49,020,020)	($24,423,140)	($3,659,760)	$12,030,420	$31,026,120	$36,787,920	SUM
	PV=CF/(1.12^N)	PRESENT VALUE OF NET CASH FLOW	($60,000,000)	$9,803,554	$19,608,482	$14,778,964	$9,971,393	$10,778,670	$2,919,107	$7,860,170
4	NPV=Sumof PV	Net Present Value(NPV) of the Project	$7,860,170
	3	Internal Rate of Return (IRR) of the Project	17%	(Using IRR Function of excel over the Net Cash Flow)
		Payback Period=Period when Cumulative cash flow=0
	1	Payback Period=3+((3659760/15690180)	3.23	Years
		Profitability Index=(NPV+Initial Outlay)/(Initial Outlay)
		Profitability Index=(7860170+60000000)/60000000
	2	Profitability Index	1.13
	7	NPV is positive,IRR >12% and Profitability Index>1
		Conch Republic should produce the new phone
											H45 X fx =IRR(H41:N41) N O $14,676,480 $8,574,000 $23,250,480 $12,270,500 ($12,270,500) $9,902,880 $14,694,000 $24,596,880 $12,270,500 K $7,601,880 $10,494,000 $18,095,880 $9,603,000 $2,667,500 L $6,595,680 $7,494,000 $14,089,680 $8,002,500 $1,600,500 M $3,577,080 $5,358,000 $8,935,080 $5,761,800 $2,240,700 $7,819,920 $18,995,700 $31,026,120 $10,778,670 $0 $0 $5,761,800 $15,690,180 ($60,000,000) $10,979,980 $24,596,880 $20,763,380 ($60,000,000) ($49,020,020) ($24,423,140) ($3,659,760) ($60,000,000) $9,803,554 $19,608,482 $14,778,964 $7,860,170 17%(Using IRR Function of excel over the Net Cash Flow) $5,761,800 $36,787,920 SUM $2,919,107 $7,860,170 $9,971,393