Question

Snow Inc. has just completed development of a new cell phone. The new product is expected to produce annual revenues of $1,400,000 Producing the cell phone requires an investment in new equipment, costing $1,500,000. The cell phone has a projected life cycle of 5 years. After 5 years, the equipment can be sold for $180,000. Working capital is also expected to decrease by $200,000, which Snow will recover by the end of the new product's life cycle. Annual cash operating expenses are estimated at $820,000. The required rate of return is 8%

Answer 1

1) Calculation of NPV using discount factors from the present value of a single table:

Year	Net Cash Flow (A)	Discount factor (8%) (B)	Present value (A*B)
0	$ (1,700,000)	1.000	$ (1,700,000)
1	580,000a (1,400,000 - 580,000)	0.9259	537,022
2	580,000	0.8573	497,234
3	580,000	0.7938	460,404
4	580,000	0.7350	426,300
5	960,000b (580,000 + 200,000)	0.6806	653,376
Total	Net Present value		874,336

Working Notes:

a) Net cash Inflow = Annual Revenue - Operating Expenses

b) In the 5th year, the Working capital will be recovered.

So, the NPV using the Present value factor tables is $ 874,336.

2) Calculation of NPV using both the tables:

Year	Net Cash Flow (A)	Discount factor (8%) (B)	Present value (A*B)
0	$ (1,700,000)	1.000	$ (1,700,000)
1-4	580,000	3.3121	1,921,018
5	960,000	0.6806	653,376
Total	Net Present value		874,394

So, the NPV using the Annuity tables is $ 874,394.