Question

After looking at the projections of the HomeNet project, you decide that they are not realistic. It is unlikely that sales will be constant over the four-year life of the project. Furthermore, other companies are likely to offer competing products, so the assumption that the sales price will remain constant is also likely to be optimistic. Finally, as production ramps up, you anticipate lower per unit production costs resulting from economies of scale. Therefore, you decide to redo the projections under the following assumptions: Sales of 50,000 units in year 1 increasing by 52,000 units per year over the life of the project, a year 1 sales price of $ 260 /unit, decreasing by 11 % annually and a year 1 cost of $ 120 /unit decreasing by 21% annually. In addition, new tax laws allow you to depreciate the equipment, costing $ 7.5 million over three rather than five years using straight-line depreciation.

a. Keeping the underlying assumptions in Table 1 ( ) that research and development expenditures total $ 15 million in year 0 and selling, general, and administrative expenses are $ 2.8 million per year, recalculate unlevered net income. (That is, reproduce Table 1 under the new assumptions given above. Note that we are ignoring cannibalization and lost rent.)

b. Recalculate unlevered net income assuming, in addition, that each year 20 % of sales comes from customers who would have purchased an existing Cisco router for $ 100 /unit and that this router costs $ 60 /unit to manufacture.

Table:

Data Table (Click on the Icon located on the top-right corner of the data table below in order to copy its contents into a spreadsheet) Year 4 만! Incremental Earnings Forecast ( $000) 1 Sales 2 Cost of Goods Sold 3 Gross Profits 4 Selling, General, and Administrative 5 Research and Development 6 Depreciation 7 EBIT 8 Income Tax at 40% 9 U 26,000 26,000 26,000 26,000 11,000) 11,000) 11,000 11000)- 15,000 15,000 15,000 15,000 (2,800) (2,800) (2,800) (2,800) 15,000 - (1,500) (1,500) 1,500) ,500 (1,500) 15,000 0,700 10,700 10,700 10,700 1,500) 600 (9,000) 6,420 6,420 6,420 6,420 (900) 6,000 (4,280) (4,280) (4,280) (4,280) nlevered Net Income Print Done a Koeping te unden ng 교ssumptons n able gnoring cannibaizzbion and lost rent.) Cakculate the yerly urievered net income below that research and deve opmen co cno ures ota S 5 milion ın ear 0 and se ng genera and admnstrat c o penses ac S2.0 mlion per year, ccacu te unlevered nct rcome That is, cproc ce Table uncer the new ฮ2sumptions gvon above Noe t at wc are Round lu the neerest dol ar) Incramantal Earnnga Foracast( Saes Cost of Goods Sold Scling, General, and Ndmin Research and Development Round to the nearest dolar.) Year 1 Incremental Earnings Forecast (S000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income Round to the nearest dollar.) Year 2 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income Round to the nearest dollar.) Year 3 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income Round to the nearest dollar.) Year 4 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income b. Recalculate unlevered net income assuming n addition, that each year 20% o sales comes rom customers who would have purchased an existing Linksys router or S100 unit and that this router costs S60 unit to manufacture. Calculate the yearly unlevered net income below: Round to the nearest dollar) Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income s D Round to the nearest dollar.) Year 1 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income Round to the nearest dollar.) Year 2 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income Round to the nearest dollar.) Year 3 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income ound to the nearest dollar.) Year 4 Incremental Earnings Forecast ($000) Sales Cost of Goods Sold Gross Profits Selling, General, and Admin. Research and Development Depreciation EBIT Income Tax at 40% Unlevered Net Income

Answer 1

Answer (a)
Year	0	1	2	3	4	5
Sales		13000	12033	10709	9531	0
COGS		6000	4930	3894	3077	0
Gross Profit		7000	7103	6815	6455	0
SG&A		2800	2800	2800	2800	0
R&D	15000	0	0	0	0	0
Dep		2500	2500	2500	0	0
EBIT		1700	1803	1515	3655	0
Income Tax		680	721	606	1462	0
Unevered Net Income		1020	1082	909	2193	0

The sale price in Year 1 is 260. Thereafter, it is reducing by 11% and so the sales value is decreasing. The same is true for cost of good sold as cost per unit is reducing by 21% from second year onwards.

Answer (b)
Year		0	1	2	3	4
			50000	52000	52000	52000
No of router not sold (%)			20%	20%	20%	20%
No of router not sold			10000	10400	10400	10400
Price per unit			260	231.4	205.946	183.2919
revenue Loss			2600000	2406560	2141838	1906236
revenue Loss ('000)			2600	2.40656	2.141838	1.906236
Revised Incremental Sales			10400	12030	10707	9529
Gain in production cost			600	624	624	624
Year		0	1	2	3	4	5
Sales			10400	12030	10707	9529	0
COGS			5400	4306	3270	2453	0
Gross Profit			5000	7725	7437	7077	0
SG&A			2800	2800	2800	2800	0
R&D		15000	0	0	0	0	0
Dep			2500	2500	2500	0	0
EBIT			-300	2425	2137	4277	0
Income Tax			-120	970	855	1711	0
Unevered Net Income			-180	1455	1282	2566	0