Case $1.$ Goodweek Tires

FACT PATTERN

After extensive research and development, Goodweek Tires, Inc., has recently developed a new tire, the SuperTread, and must decide whether to make the investment necessary to produce and market it$.$ The tire would be ideal for drivers doing a large amount of wet weather and off$-$road driving in addition to normal freeway usage. The research and development costs so far have totaled about $$10$ million. The SuperTread would be put on the market beginning this year, and Goodweek expects it to stay on the market for a total of four years. Test marketing costing $$5$ million has shown that there is a significant market for a SuperTread$-$type tire.

As a financial analyst at Goodweek Tires, you have been asked by your CFO, Adam Smith, to evaluate the SuperTread project and provide a recommendation on whether to go ahead with the investment. Except for the initial investment that will occur immediately, assume all cash flows will occur at year$-$end.

Goodweek must initially invest $$185$ million in production equipment to make the Super$-$ Tread. This equipment can be sold for $$75$ million at the end of four years. Goodweek intends to sell the SuperTread to two distinct markets:

The original equipment manufacturer $($OEM$)$ market: The OEM market consists primarily of the large automobile companies $($like General Motors$)$ that buy tires for new cars. In the OEM market, the SuperTread is expected to sell for $$43$ per tire. The variable cost to produce each tire is $$31.$

The replacement market: The replacement market consists of all tires purchased after the automobile has left the factory. This market allows higher margins; Goodweek expects to sell the SuperTread for $$64$ per tire there. Variable costs are the same as in the OEM market.

Goodweek Tires intends to raise prices at $1$ percent above the inflation rate; variable costs also will increase at $1$ percent above the inflation rate. In addition, the SuperTread project will incur $$53$ million in marketing and general administration costs the first year. This cost is expected to increase at the inflation rate in the subsequent years.

Goodweek$$s corporate tax rate is $23$ percent. Annual inflation is expected to remain constant at $3\mathrm{.}25$ percent. The company uses a $13\mathrm{.}4$ percent discount rate to evaluate new product decisions. Automotive industry analysts expect automobile manufacturers to produce

$8\mathrm{.}5$ million new cars this year and for production to grow at $2\mathrm{.}5$ percent per year thereafter. Each new car needs four tires $($the spare tires are undersized and are in a different category$).$ Goodweek Tires expects the SuperTread to capture $11$ percent of the OEM market.

Industry analysts estimate that the replacement tire market size will be $35$ million tires this year and that it will grow at $2$ percent annually. Goodweek expects the SuperTread to capture an $8$ percent market share.

The appropriate depreciation schedule for the equipment is the $7-$year MACRS depreciation schedule. The immediate initial working capital requirement is $$10$ million. Thereafter, the net working capital requirements will be $15$ percent of sales.

Your answer must include:

$1.$ Establish the base case scenario. What are the NPV$,$ IRR, and PI on this project?

$2.$ Allow the growth rates in price, variable costs, and units sold for both replacement markets and OEM market, as well as the discount rate vary following the normal distribution. Apply Monte Carlo Simulation using $1000$ trials. Obtain a $95\%$ confidence interval for the NPV$.$

$3.$ Recommendations for taking the project

Deliverables:

$1.$ Executive summary with recommendations $($word doc$)$

$2.$ Spreadsheet

This is a task where other groups are presenting the same case study. Please evaluate any possible issues or wrong answers that other groups can provide and give recommendations on them.