Question

Exhibit 2-2

A small sporting goods company is considering investing $2000 in a project at the start of year 1 that will produce volleyballs over the next five years. The company plans to produce and sell 200 volleyballs in the first year, and expects that volume to grow by 10% each year thereafter. The unit selling price forecast the company has developed is $20 in year 1, $22 in year 2, $25 in year 3, $28 in year 4, and $31.50 in year 5. Variable costs are forecast to be $15 per unit produced, and there will be a fixed overhead cost in each year of $500. (Unless otherwise indicated, assume that all cash flows occur at the end of the year.)

Refer to Exhibit 2-2. Use the above information to develop a simple cash flow sheet, and then calculate the project value assuming a 10% discount rate. What is your answer? (Please use the excel model, SmallSportingGoodsCompanyNPV_My_Students.xlsx in Chapter 2.)

Answer:

Answer 1

Net Present Value is the difference between the present value of future net cash inflow and initial cash outflow/investment. If it is negative then project should rejected and positive then project should be accepted. Year Particulars 3 4 Unit Sold 220 266 200 242 293 [200x110%] [220x110%] [242x110%] [266x110%] Selling Price per unit Sales (A) $20.00 $22.00 $25.00 $28.00 $31.50 $4,000.00 $4,840.00 $6,050.00 $9,229.50 [293x $31.5] $3,990.00 $4,395.00 [293x $15] $7,448.00 [200x $20] [220x $22] [242x $25] [266x $28] $3,000.00 $3,300.00 $3,630.00 Less: Variable Cost (B) [200x $15] [220x $15] [242x $15] [266x $15] Less: Fixed Cost (C) Net Cash Flow (D)=(A)-(B)-(C) Present Value Factor - rate 10% (E) $500.00 $500.00 $500.00 $500.00 $500.00 $1,040.00 $1,920.00 $500.00 $2,958.00 $4,334.50 0.90909 0.75131 0.82645 0.68301 0.62092 Present Value of Cash flow (D) x (E) $455 $860 $1,443 $2,020 $2,691 Total Present Value of cash inflow $7,469 $7,469 $2,000 Present Value of Cash Inlow Less: Investment $5,469 Net Present Value Project Value is $5469