Solve by using Excel sheet with formulas and numbers in details

Robert Chung is an owner of a successful clothing and accessories design company, BKM Fashion. Recently, Robert set to work developing a series of fashion shoes. He has worked out the details for the production and sales of this new venture. Robert expects a five-year life span for this particular product line and plans on evaluating the project on that basis.

In order to start the project, the company plans to set up its new operation in a land it already own, which can be sold today for $1 million dollars. The project requires computer driven cutting and assembly machines for the major work. The cost of the machines would be $3 million dollars. These would be depreciated as 20%, 32%, 19.2%, 11.52%, and 11.52% over the useful life of the assets. At the end of the five-year project, the machinery can be sold for $250,000.

Robert is very optimistic about sales. He thinks sales could start around 25,000 units in the first year. From year 2 onward, the unit sales are expected to grow at a rate of 10% per year. He also expects the bag will warrant a wholesale price of $38.00 in the first year of launch. The price should rise with inflation, currently estimated to be 3%.

The project takes 0.33 man-hours to make each bag at a cost of $15.00 per hour. The cost of raw material per bag would be $10.80 per bag. Fixed costs would run $22,000 including utilities, maintenance and all. Shipping would cost $500 per 250 bags. Labor costs have been rising at between 3% per year and raw material and fixed costs are expected to rise with inflation, 2.5%.

The company would need working capital equal to 8% of the coming years sales at all times. The effective tax rate for the company is of 30%.

Relevant information to estimate the discount rate (cost of capital) is as follow:

- BKM stock return have a beta of 1.2. The risk free rate is 6% and expected return on the market is 14%. BKM stock, of which 40 million shares are outstanding, however, sells for $15 per share. BKM has 300,000 common stock outstanding that are selling for $30 each in the market.

- BKM carries 30,000 bond outstanding each with a face value of $1,000, 10% coupon rate paid semiannually. The market value of the bonds is $200 million. Bond with similar characteristics are yielding at 9.8% p.a.

- The firm has no preferred stock.

- The project is believed to have the same risk as firms typical project.

Requirements:

a. Calculate the discount rate (WACC) of the project

(Note: if you cannot answer this question, assume that the discount rate is 10%)

b. Calculate the net present value (NPV) and the internal rate of return (IRR) of the project

c. Should BKM proceed the project and why?