Diamond Electronics, Inc is a leading producer of batteries, which are used in a wide variety of products and known for its power and durability. The sales have been excellent; however, as with any electronic item, technology changes rapidly, and the current batteries have limited features in comparison with newer models. Recently, the CEO of Diamond Electronics is planning an expansion of the Battery Testing Center (BTC) to improve its technical capability and capacity to comfortably house personnel. The BTC was built in the 1960s to serve as a laboratory and testing facility for a variety of battery-related applications.

Diamond Electronics spent $5million to develop a new LED (light-emitting diodes) battery that has all the features of the existing LED battery, but adds new features such as automotive application. The company has spent a further $2million for a marketing study to determine the expected sales figures for the new LED battery. The necessary equipment to manufacture the new LED battery can be purchased for $10million and will be depreciated on a seven-year MACRS schedule. The after-tax salvage value of the equipment in five years will be $1 million. The Net working capital to manufacture the new LED battery is estimated to be $4.5 million and will occur from year 0 to year 4. The company also projects to incur $900,000 financing costs.

Diamond Electronics can manufacture the new LED battery for $86 each in variable costs. The estimated sales volume is 70,000, 80,000, 100,000, 85,000, and 75,000 per each year for the next five years, respectively. The unit price of the new LED battery will be $250. Diamond Electronics has a 35% corporate tax rate and a 15% required return. The operating cash flows are estimated to be $3,295,248, $5,639,298, $10,435,048, $8,293,798, and $6,853,208 for the next five years, respectively.

Jay McCanless, a recent business graduate, has been hired by the companys finance department. He gathers relevant data and forecasts the incremental cash flows of the new projects. Jay was asked to prepare a report that answers the following questions:

1. Please identify the relevant cash flows when evaluating the new LED battery project.

2. When evaluating the new LED battery project, what value, if any, should Diamond Electronics assign to as an initial cost of the project?

3. Please prepare the cash flow chart for the new LED battery project, including operating cash flow, change in net working capital, net capital spending, and cash flow from assets.

4. What is the net present value of the project? What is the IRR of the project?

5. Based on your analysis, what should your decision be?

6. Because some analysts caution that it is possible that macroeconomic condition may continue to decline in the next five years, Jays boss asked him to revise his forecasts. After further investigation, Jay believes that there is 80% chance that the NPV will be the same as he has forecasted, and 20% chance the NPV will be 6 million. After the revision, what is the correct NPV forecast?