Question

You are the financial analyst for a tennis racket manufacturer. The company is considering using a graphitelike material in its tennis rackets. The company has estimated the information in the following table about the market for a racket with the new material. The company expects to sell the racket for four years. The equipment required for the project has no salvage value and will be depreciated on a straight-line basis. The required return for projects of this type is 12 percent, and the company has a 34 percent tax rate.

		Pessimistic				Expected				Optimistic
	Market size		121,000				136,000				161,000
	Market share		21	%			24	%			26	%
	Selling price	$	144			$	149			$	155
	Variable costs per unit	$	98			$	93			$	92
	Fixed costs per year	$	959,000			$	914,000			$	884,000
	Initial investment	$	1,248,000			$	1,180,000			$	1,112,000

Calculate the NPV for each case for this project. Assume a negative taxable income generates a tax credit. (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Pessimistic		$
Expected		$
Optimistic		$

Answer 1

Annual Cash flows and NPV
			Pessimistic	Expected	Optimistic
Sales units			121000	136000	161000
CM per unit (Selling price - VC)			46	56	63
Total Contributiton			5566000	7616000	10143000
Less: fixed cost			959000	914000	884000
Less: Depreciation			312000	295000	278000
Before tax income			4295000	6407000	8981000
Less: tax @ 34%			1460300	2178380	3053540
After tax Income			2834700	4228620	5927460
Add: Depreciation			312000	295000	278000
Annual cashflows			3146700	4523620	6205460
PVF at 12% for 4yrs			3.03735	3.03735	3.03735
Present value of inflows			9557629	13739817	18848154
Less: Investment			1248000	1180000	1112000
NPV			8309629	12559817	17736154