Question

help me solve this ?

EMU ELECTRONICS

Emu Electronics is an electronics manufacturer located in Box Hill, Victoria. The company’s managing director is Shelly Chan, who inherited the company from her father. The company originally repaired radios and other household appliances when it was founded more than 50 years ago. Over the years, the company has expanded, and it is now a reputable manufacturer of various specialty electronic items. Robert McCanless, a recent graduate, has been hired by the company in the finance department.

One of the major revenue-producing items manufactured by Emu Electronics is a smart phone. Emu Electronics currently has one smart phone model on the market and sales have been excellent. The smart phone is a unique item in that it comes in a variety of colours and is pre-programmed to play Jimmy Barnes’s music. However, as with any electronic item, technology changes rapidly, and the current smart phone has limited features in comparison with newer models. Emu Electronics has spent £750 000 developing a prototype for a new smart phone that has all the features of the existing one, but adds new features, such as Wifi Tethering. The company has spent a further £200 000 for a marketing study to determine the expected sales figures for the new smart phone.

Emu Electronics’ production manager has produced estimates of the costs associated with manufacture of the new smart phone. Variable costs are estimated at £205 per unit and fixed costs for the operation are expected to run at £5.1 million per year. The estimated sales volume is 64 000 units in Year 1; 106 000 units in Year 2; 87 000 units in Year 3; 78 000 units in Year 4; and 54 000 units in the final year. The unit price of the new smart phone will be £485. The necessary manufacturing equipment can be purchased for £34.5 million and will be depreciated for tax purposes over a seven-year life (straight-line to zero). It is believed the value of the manufacturing equipment in five years’ time will be £5.5 million.

Net working capital for the smart phones will be 20% of sales and will have to be purchased at the end of the year. The cost of the raw materials is reflected in the variable unit cost. Changes in NWC will first occur at the end of Year 1 based on the first year’s sales. Emu Electronics has a 30% corporate tax rate and a 12% required return.

Required:

Shelly has asked Robert to prepare a report that answers the following questions:

Should Emu Electronics produce the new smart phone?

Suppose Emu Electronics loses sales on other models because of the

introduction of the new model. How would this affect your analysis?

Answer 1

Tax rate		30%
	Year-0	Year-1	Year-2	Year-3	Year-4	Year-5
Units		64,000	106,000	87,000	78,000	54,000
Sale Price		485	485	485	485	485
variable cost		205	205	205	205	205
Sale		31,040,000	51,410,000	42,195,000	37,830,000	26,190,000
Less: Operating Cost		13,120,000	21,730,000	17,835,000	15,990,000	11,070,000
Contribution		17,920,000	29,680,000	24,360,000	21,840,000	15,120,000
Less: Fixed Cost		5,100,000	5,100,000	5,100,000	5,100,000	5,100,000
Less: Depreciation as per table given below		4,928,571	4,928,571	4,928,571	4,928,571	4,928,571
Profit before tax		7,891,429	19,651,429	14,331,429	11,811,429	5,091,429
Tax		2,367,429	5,895,429	4,299,429	3,543,429	1,527,429
Profit After Tax		5,524,000	13,756,000	10,032,000	8,268,000	3,564,000
Add Depreciation		4,928,571	4,928,571	4,928,571	4,928,571	4,928,571
Cash Profit After tax		10,452,571	18,684,571	14,960,571	13,196,571	8,492,571
Working capital-opening	-	-	6,208,000	10,282,000	8,439,000	7,566,000
Closing working capital	-	6,208,000	10,282,000	8,439,000	7,566,000	5,238,000
Movement	-	6,208,000	4,074,000	(1,843,000)	(873,000)	(2,328,000)
Cost of macine			34,500,000
Depreciation			24,642,857
WDV			9,857,143
Sale price			5,500,000
Profit/(Loss)			(4,357,143)
Tax			(1,307,143)
Sale price after tax			6,807,143
Depreciation		Year-1	Year-2	Year-3	Year-4	Year-5	Total
Cost		34,500,000	34,500,000	34,500,000	34,500,000	34,500,000
Dep Rate		14.29%	14.29%	14.29%	14.29%	14.29%
Deprecaition		4,928,571	4,928,571	4,928,571	4,928,571	4,928,571	24,642,857
Calculation of NPV
						12.00%
Year		Captial	Working captial	Operating cash	Annual Cash flow	PV factor	Present values
0		(34,500,000)	-		(34,500,000)	1.000	(34,500,000)
1			(6,208,000)	10,452,571	4,244,571	0.893	3,789,796
2			(4,074,000)	18,684,571	14,610,571	0.797	11,647,458
3			1,843,000	14,960,571	16,803,571	0.712	11,960,450
4			873,000	13,196,571	14,069,571	0.636	8,941,467
5		6,807,143	7,566,000	8,492,571	22,865,714	0.567	12,974,620
					Net Present Value		14,813,792
Since NPV is positive, new phone production is desireable
if new phone is impacting the old phone sale, the post tax cash contribution has to be added as fixed cost in our analysis to consider the impact of lost contribution from old phone