You are evaluating the HomeNet project under the following assumptions: new tax laws allow 100% bonus depreciation (all the depreciation expense, $ 7.5 million, occurs when the asset is put into use, in this case immediately). Research and development expenditures total $ 15 million in year 0 and selling, general, and administrative expenses are $ 2.8 million per year (assuming there is no cannibalization). Also assume HomeNet will have no incremental cash or inventory requirements (products will be shipped directly from the contract manufacturer to customers). However, receivables related to HomeNet are expected to account for 15 % of annual sales, and payables are expected to be 15 % of the annual cost of goods sold. Under these assumptions and assuming a cost of capital of 14 %, calculate:
a. The break-even annual sales price decline if: sales of 50,000 units in year 1 increase by 48,000 units per year over the life of the project, the year 1 sales price is $260/unit, and the year 1 cost of $120/unit decreases by 18 % annually. See the data table
b. The break-even annual unit sales increase if: sales are 50,000 units in year 1, the year 1 sales price of $260/unit, decreases by 11 % annually and the year 1 cost of $120/unit decreases by 18 %annually. See the data table
Homework Answers
This can be solved using Solver by calculating the annual sales price decline/annual unit sales increase at which NPV becomes 0.
a). Annual sales price decline for break-even NPV = 19.29%
b). Annual unit sales increase for break-even NPV = 25,921.8 or 25,922 units or 25.92 thousand units
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After looking at the projections of the HomeNet project, you decide that they are not realistic. ...
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...
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