Question

U VU, Awalue is simply the calculated NPV of the option. It the value that is not account P V and a positive option value expands the firm's opportunities Quantitative Problem: Sunshine Smoothies Company (SSC) manufactures and distributes smoothies. SSC regarding the proposed project, which is expected to last years considering the development of a new line of high protein energy sm es. Ses Chasected the fo r con • The project can be operated at the company's Charleston plant, which is currently vacant • The project will require that the company spend $3.99 million today (t ) to purchase aditional equipment for tax purposes the equipment will be deprecated on a straigone bass over years. Thus, there's annual repreciation expenses 3,990,000/ 5 7 0,000. The company plans to use the equipment for all years of the project. ALT 3 (which is the projects at year of operation, the e nt is expected to be sold for $1,700,000 before the • The project will require an increase in net operating working capital of $730,000 att . The cost of the working capital wil b ly recovered at -3 which is the project's last year of operation • Expected Nigh-protein energy smoothie sales are as follows: Year Sales 1 $2,100,000 2 7.900,000 33,200,000 - The project's annual operating co n cluding depreciation) are expected to be ok of a - The company's tax rate is 40%. The company is extremely profitable or any losses are incurred from the high protein energy smoothie project they can be used to partially offset credits related to this project they can be used in the year they occut) - The project has a WACC - 10.0% What is the project's expected and erspected Do not round your intermediate calculation round your answer for the p Should them accept the project? SSC is considering another project: the introduction of a weight loss math. The project would require a 36 mson Investment oublay cay = 0). Theater tax cash now would depend on whether he w a s well receved by consumers. There is a chance that demand wil be good, in which case the project will produce after-tax cash flows of $2.5 m on at the end of each of the next year. There is a 60% chance that demand will be poor which case the after-tax cash flows will be $0.55 million for years. The project is riskler than the other projects, it has a WACC OF 11. There will know if the project is c a er receiving the cannows the st and te moving the hirst year's c o ws it will have the option to abandon the project. If the firm decides to abandon the project the company will not receive any cash flows after 1, but it will be able to the related to the project for 12.5 millioner taxes at t= 1. Auring the company has an option to abandon the project, what is the expected NPV of the project todayRound you to 2 decimal laces. Do not round your medication Enter your answers in For example, an answer of $10,550,000 should be entered as 10.55. milions of dollars

Answer 1

Smoothies	0	1	2	3	BV
Investment	-$3,990,000				$1,596,000
NWC	-$730,000			$730,000
Salvage				$1,700,000
Sales		$2,100,000	$7,900,000	$3,200,000
Costs		-$1,260,000	-$4,740,000	-$1,920,000
Depreciation		-$798,000	-$798,000	-$798,000
EBT		$42,000	$2,362,000	$482,000
Tax (40%)		-$16,800	-$944,800	-$192,800
Profits		$25,200	$1,417,200	$289,200
Cash Flows	-$4,720,000	$823,200	$2,215,200	$3,475,600
NPV	$470,377.16
IRR	14.54%

Cash Flows = Investment + NWC + (Salvage - Book Value) x (-Tax Rate) + Salvage + Profits + Depreciation

NPV and IRR can be calculated using the same function in excel or calculator with above cash flows.

Smoothies	0	1	2	3
Cash Flows	-3.6	2.5	2.5	2.5
NPV (good)	$2.51
Cash Flows	-3.6	3.05
NPV (poor)	-$0.85
Expected NPV	$0.492

Expected NPV = NPV (good ) x 40% + NPV (poor) x 60%