2 Chapter 12. Ch 12-11 Build a Model 3 5 6 Webmasters.com has develop ed a powerful new server th at would be used for corporations' Internet activities. It would cost $10 million to buy the equipment necessary to manufacture the server, and it would require net working capital equal to 10% 8 of sales. The servers would sell for $24,000 per unit, and Webmasters believes that variable costs would amount to $17,500 per 9 unit. After the first year, the sales price and variable costs would increase at the inflation rate of 3%. The company's fixed 10 costs be $1 million per year and increase with inflation. It would take one year to buy the required equipment and set up 11 operations, and the server project would have a life of 4 years. If the project is undertaken, it must be continu ed for the entire 4 12 years. Also, the project's returns are expected to be highly correlated with returns on the firm's other assets. The firm believes 13 it could sell 1,000 units per year. 14 15 16 17 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 18 is 10% for average risk projects, defined as projects with a coefficient of variation for NPV between 0.8 and 1.2. Low risk 19 projects are evaluated with a WACC of 8%, and high risk projects at 13%. 20 21 a. Develop a spreadsheet model and use it to find the project's NPV, IRR, and payback. 22 7 The equipment would be depreciated over a 5-year period, using MACRS rates. The estimated market value of the 23 24 25 Part 1. Input Data (in thousands of dollars) 26 Key Output: NPV IRR = MIRR= 27 Equipment cost 28 Net Operating WC/sales 29 First year sales (in units) 30 Sales price per unit 31 Variable cost per unit 32 Fixed costs 33 34 Part 2. Dep reciation and Amortization Schedule 35 Year $10,000 $500 10% Market value of equipment in 2005 1,000 x rate 40% $24.00 WACC 10% 3.0% $17.50 Inflation si,000 Accum'd Years Initial Cost 1 2 3 4 Depr'n 36 37 Equipment Depr'n Rate 38 Equipment Depr'n, Dollars 39 Ending Bk Val: Cost - Accum Dep'rn 20.0% 32.0% 19.0% 12.0% 40 41 Part 3. Net Salvage Values, in Year 4 Equipment 42 Estimated Market Value in Year 4 43 Book Value in Year 4 44 Expected Gain or Loss 45 Taxes paid or tax credit 46 Net cash flow from salvage 47 2 Chapter 12. Ch 12-11 Build a Model 3 5 6 Webmasters.com has develop ed a powerful new server th at would be used for corporations' Internet activities. It would cost $10 million to buy the equipment necessary to manufacture the server, and it would require net working capital equal to 10% 8 of sales. The servers would sell for $24,000 per unit, and Webmasters believes that variable costs would amount to $17,500 per 9 unit. After the first year, the sales price and variable costs would increase at the inflation rate of 3%. The company's fixed 10 costs be $1 million per year and increase with inflation. It would take one year to buy the required equipment and set up 11 operations, and the server project would have a life of 4 years. If the project is undertaken, it must be continu ed for the entire 4 12 years. Also, the project's returns are expected to be highly correlated with returns on the firm's other assets. The firm believes 13 it could sell 1,000 units per year. 14 15 16 17 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 18 is 10% for average risk projects, defined as projects with a coefficient of variation for NPV between 0.8 and 1.2. Low risk 19 projects are evaluated with a WACC of 8%, and high risk projects at 13%. 20 21 a. Develop a spreadsheet model and use it to find the project's NPV, IRR, and payback. 22 7 The equipment would be depreciated over a 5-year period, using MACRS rates. The estimated market value of the 23 24 25 Part 1. Input Data (in thousands of dollars) 26 Key Output: NPV IRR = MIRR= 27 Equipment cost 28 Net Operating WC/sales 29 First year sales (in units) 30 Sales price per unit 31 Variable cost per unit 32 Fixed costs 33 34 Part 2. Dep reciation and Amortization Schedule 35 Year $10,000 $500 10% Market value of equipment in 2005 1,000 x rate 40% $24.00 WACC 10% 3.0% $17.50 Inflation si,000 Accum'd Years Initial Cost 1 2 3 4 Depr'n 36 37 Equipment Depr'n Rate 38 Equipment Depr'n, Dollars 39 Ending Bk Val: Cost - Accum Dep'rn 20.0% 32.0% 19.0% 12.0% 40 41 Part 3. Net Salvage Values, in Year 4 Equipment 42 Estimated Market Value in Year 4 43 Book Value in Year 4 44 Expected Gain or Loss 45 Taxes paid or tax credit 46 Net cash flow from salvage 47