Case Study Questions

$1.$ Please prepare a pro$-$forma income statement showing the annual cash flows resulting from the Lawn Robot project. Case Study Analysis

The Lawn Robot: Is it Really Worth it$?$

If there was one thing the folks at Creative Products Corporation knew well, it was how to come up with useful

and unique products during the economic adversity. With the current year's revenues considerably lower and

profit margins shrinking due to severe price competition, the firm's engineers had been pushed hard to develop

a prototype of a useful, and hopefully highly profitable unique product. Last month, the design team unveiled a

fully tested prototype of their latest innovation, a remote$-$controlled lawn mower, the Lawn Robot.

Surveys of retailers and customers conducted by the marketing department indicated that demand would be

excellent, provided the price was lower than a riding lawn mower. The testing and development phases took

almost three years, and the final product passed all safety hazard tests with flying colors. After the unveiling, the

product was exhibited at various home shows nationwide and received race reviews. Full production has not yet

started, however, because there had been a change in CEOs and the new CEO was highly conservative.

Before being given to the $"$go ahead" to go into full$-$scale production of the Lawn Robot, the design team had to

present a detailed feasibility study to the Capital Investment Committee $($CIC$)$ which was chaired by the Vice

President of Finance, Bill Burton. As was typical for a major undertaking of this type, the proposal had to include

detailed cost and revenue estimates with sufficient documentation to substantiate the numbers.

Having been involved with more than a few of these kinds of proposals before, the head of the design team,

Matt Robichek, knew that he had better take every possible factor into consideration and be prepared for a

tough meeting and demanding question and answer session at the next committee meeting. Lucking for Matt,

his assistant, Chris Robinson, who had recently earned his chartered financial analyst designation, was an

experienced and dependable employee. Prior to being hired by CPC three years ago, Chris had worked for

another large engineering company for over $10$ years. "Chris, we have to do all the I$\text{'}$s and cross all the t$\text{'}$s on this

one" said Matt. $"$Or else the big guys are going to tear us apart, because we are talking major dollars here. Their

main question is going to be$,$ is it worth it$?$ So$,$ Matt and Chris began collecting the necessary information. They knew that to have a comprehensive

feasibility study they would have to include the following:

Pro forma statements showing expected annual revenues, variable costs, fixed cossts and net cash flows

over the economic life of the project with appropriate supporting documentation.

Break$-$even analysis.

Sensitivity of the cash flows to alternative scenarios of sales growth and profit margins.

Based on the data provided by the marketing department, they prepared Table $1,$ showing the expected unit

sales of the Lawn Robot over its $10-$year economic life and the expected selling price per unit. Note that the

price of $$800$ per unit was estimated to gradually drop to $$700$ per unit over the $10-$year period reflecting

competitive pressures. Depreciation for this project was based on the seven$-$year MACRS rates as shown in Table

The cost of equipment, including shipping, handling, and installation, was estimated at $$18$ million. It was

estimated that after $10$ years, the equipment and tools could be sold for $$3$ million.

The manufacturing would be done in an unused plant of the firm. Similar plant locations could be leased for

$$14,000$ per month. Fixed costs were estimated to be Pro

$2.$ Estimate the cash flows and calculate NPV and profitability index of the project? What do you recommend?

$3.$ Calculate the IRR of the project. Based on your calculations, what would you recommend? Why?

$4.$ Calculate the payback period and discounted payback period. If the company$$s expected payback period is $4$ years, what do you recommend? Why?

$5.$ What could the maximum value of cost of capital that makes the company still to accept the project?

$6.$ How should the annual interest expense of $$250,000$ be treated? Explain.

$7.$ How sensitive is the operating cash flow $($OCF$)$ in Year $1$ of the project to the Variable Cost of Capital? Hint: Give a different value for the variable cost and find the $$Change in OCF Year $1/$ Change in Variable Cost per Unit$.$

$8.$ Suppose that the company spent $$200,000$ in developing the prototype of the Lawn Robot. How should they treat this item in their report? Explain.

$9.$ Use a scenario analysis to show how the NPV would change if the prices were $20\%$ worse $($pessimistic$)$ and $20\%$ better $($optimistic$))$ than the stated forecasts$($base$).$