(Solution) 12/7/2012 Chapter: Problem: 11 18 Webmasters.com Has Developed A Powerful New Server That Would Be Used For Corporations' Internet Activities. It... | Snapessays.com


(Solution) 12/7/2012 Chapter: Problem: 11 18 Webmasters.com has developed a powerful new server that would be used for corporations' Internet activities. It...


(11-18)Build a Model: Issues in Capital BudgetingStart with the partial model in the file Ch11 P18 Build a Model.xls on the textbook’s Web site. Webmasters.com has developed a powerful new server that would be used for corporations’ Internet activities. It would cost $10 million at Year 0 to buy the equipment necessary to manufacture the server. The project would require net working capital at the beginning of a year in an amount equal to 10% of the year’s projected sales:NOWC0 = 10%(Sales1). The servers would sell for $24,000 per unit, and Webmasters believes that variable costs would amount to $17,500 per unit. After Year 1, the sales price and variable costs will increase at the inflation rate of 3%. The company’s nonvariable costs would be $1 million at Year 1 and would increase with inflation. The server project would have a life of 4 years. If the project is undertaken, it must be continued for the entire 4 years. Also, the project’s returns are expected to be highly correlated with returns on the firm’s other assets. The firm believes it could sell 1,000 units per year.The equipment would be depreciated over a 5-year period, using MACRS rates. The estimated market value of the equipment at the end of the project’s 4-year life is $500,000. Webmasters’ federal-plus-state tax rate is 40%. Its cost of capital is 10% for average-risk projects, defined as projects with an NPV coefficient of variation between 0.8 and 1.2.Low-risk projects are evaluated with aWACC of 8% and high-risk projects at 13%.a. Develop a spreadsheet model, and use it to find the project’s NPV, IRR, and payback.b. Now conduct a sensitivity analysis to determine the sensitivity of NPV to changes in the sales price, variable costs per unit, and number of units sold. Set these variables’values at 10% and 20% above and below their base-case values. Include a graph in your analysis.c. Now conduct a scenario analysis. Assume that there is a 25% probability that best-case conditions, with each of the variables discussed in part b being 20% better than its base-case value, will occur. There is a 25% probability of worst-case conditions, with the variables 20% worse than base, and a 50% probability of base-case conditions.d. If the project appears to be more or less risky than an average project, find its riskadjustedNPV, IRR, and payback.e. On the basis of information in the problem, would you recommend that the project beaccepted?**Please use the attached format and use the blank boxes to fill in answers.  Also make sure answers have formulas not just numbers.**Thanks12/7/2012

 

Chapter:

 

11

 

Problem:

 

18

 

a.

 

Develop a spreadsheet model, and use it to find the project’s NPV, IRR, and payback.

 

Input Data (in thousands of dollars)

 

Equipment

 

cost

 

$10,000

 

Key Results:

 

Net operating working capital/Sales

 

10%

 

NPV

 

=

 

First year sales (in units)

 

1,000

 

IRR

 

=

 

Sales price per unit

 

$24.00

 

Payback =

 

Variable cost per unit (excl. depr.)

 

$17.50

 

Nonvariable costs (excl. depr.)

 

$1,000

 

Market value of equipment at Year 4

 

$500

 

Tax rate

 

40%

 

WACC

 

10%

 

Inflation in prices and costs

 

3.0%

 

Estimated salvage value at year 4

 

$500

 

Intermediate Calculations

 

1

 

2

 

3

 

4

 

Units sold

 

Sales price per unit (excl. depr.)

 

Variable costs per unit (excl. depr.)

 

Nonvariable costs (excl. depr.)

 

Sales revenue

 

Required level of net operating working capital

 

Basis for depreciation

 

$10,000

 

Annual equipment depr. rate

 

20.00%

 

32.00%

 

19.20%

 

11.52%

 

Annual depreciation expense

 

Ending Bk Val: Cost – Accum Dep'rn

 

$10,000

 

Salvage value

 

$500

 

Profit (or loss) on salvage

 

Tax on profit (or loss)

 

Net cash flow due to salvage

 

Years

 

Cash Flow Forecast

 

1

 

2

 

3

 

4

 

Sales revenue

 

Variable costs

 

Nonvariable operating costs

 

Depreciation (equipment)

 

Oper. income before taxes (EBIT)

 

Taxes on operating income (40%)

 

Net operating profit after taxes

 

Add back depreciation

 

Equipment purchases

 

Cash flow due to change in NOWC

 

Net cash flow due to salvage

 

Net Cash Flow (Time line of cash flows)

 

Key Results:

 

Appraisal of the Proposed Project

 

Net Present Value (at 10%) =

 

IRR =

 

MIRR =

 

Payback =

 

Data for Payback

 

Years

 

Years

 

1

 

2

 

3

 

4

 

Net cash flow

 

Cumulative CF

 

Part of year required

 

for payback

 

% Deviation

 

SALES PRICE

 

from

 

Base

 

NPV

 

Base Case

 

$24.00

 

-20%

 

-10%

 

0%

 

10%

 

Webmasters.com has developed a powerful new server that would be used for corporations’ Internet activities.

 

It

 

would cost $10 million at Year 0 to buy the equipment necessary to manufacture the server.

 

The project would

 

require net working capital at the beginning of each year in an amount equal to 10% of the year's projected sales; for

 

example, NWC

 

= 10%(Sales

 

1

 

).

 

The servers would sell for $24,000 per unit, and Webmasters believes that variable

 

costs would amount to $17,500 per unit.

 

After Year 1, the sales price and variable costs will increase at the inflation

 

rate of 3%.

 

The company’s nonvariable costs would be $1 million at Year 1 and would increase with inflation.

 

The server project would have a life of 4 years.

 

If the project is undertaken, it must be continued for the entire 4

 

years.

 

Also, the project's returns are expected to be highly correlated with returns on the firm's other assets.

 

The

 

firm believes it could sell 1,000 units per year.

 

The equipment would be depreciated over a 5-year period, using MACRS rates.

 

The estimated market value of the

 

equipment at the end of the project’s 4-year life is $500,000.

 

Webmasters’ federal-plus-state tax rate is 40%.

 

Its cost

 

of capital is 10% for average-risk projects, defined as projects with a coefficient of variation of NPV between 0.8 and

 

1.2.

 

Low-risk projects are evaluated with a WACC of 8%, and high-risk projects at 13%.

 

b.

 

Now conduct a sensitivity analysis to determine the sensitivity of NPV to changes in the sales price, variable

 

costs per unit, and number of units sold.

 

Set these variables’ values at 10% and 20% above and below their base-

 

case values. Include a graph in your analysis.

 

Note about data tables.

 

The data in the column input should

 

NOT be input using a cell reference to the column input cell.

 

For example, the base case Sales Price in Cell B86 should be

 

the number $24.00 you should NOT have the formula =D28 in

 

that cell.

 

This is because you'll use D28 as the column input

 

cell in the data table and if Excel tries to iteratively replace Cell

 

D28 with the formula =D28 rather than a series of numbers,

 

Excel will calculate the wrong answer.

 

Unfortunately, Excel

 


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