Question
Tony Skateboards is considering building a new plant. James Bott, the companys marketing manager, is an enthusiastic supporter of the new plant. Michele Martinez, the
Tony Skateboards is considering building a new plant. James Bott, the companys marketing manager, is an enthusiastic supporter of the new plant. Michele Martinez, the companys chief financial officer, is not so sure that the plant is a good idea. Currently the company purchases its skateboards from foreign manufacturers. The following figures ere estimated regarding the construction of the new plant.
Cost of Plant: $4,000,000 Estimated Useful life: 15 yrs
Annual Cash Inflows: $4,000,000 Salvage Value: $2,000,000
Annual Cash Outflows: $3,550,000 Discount Rate: 11%
James Bott believes that these figures understate the true potential value of the plant. He suggests that by manufacturing its own skateboards the company will benefit from a buy American patriotism that he believes is common among skateboarders. He also notes that the firm has had numerous quality control problems with the skateboards manufactured by its suppliers. He suggests that the inconsistent quality has resulted in lost sales, increased warranty claims, and some costly lawsuits. Overall, he believes sales will be $200,000 higher than the projected above, and that the savings from lower warranty costs and legal costs will be $80,000 per year. He also believes that the project is not as risky as assumed above, and that a 9% discount rate is more reasonable.
Required:
A: Compute the Cash Payback period for the project based on the original projections.
B: Compute the net present value of the project based on the original projections.
C: Compute the net present value of the project incorporating James estimates of the value of the intangible benefits, but still using the 11% discount rate.
D: Compute the Cash Payback period for the project incorporating James estimates of the value of the intangible benefits.
E: Compute the net present value of the project incorporating James estimates of the value of the intangible benefits, but employing the 9% discount rate.
F: Comment on your findings.
2. The partnership of Michele and Mark is considering the following long-term capital investment proposal. Relevant data on the project is listed below. Salvage value is expected to be zero for the project. Depreciation is computed by the straight-line method. The companys rate of return is the companys cost of capital which 12%.
Brown
Capital Investment: $200,000
Annual Net Income:
YR 1: $25,000
YR 2: $16,000
YR 3: $13,000
YR 4: $10,000
YR 5: $8,000
Total: $72,000
Required:
1: Compute the cash payback period for the project. (round to two decimal places)
2: Compute the net present value for the project (round to the nearest dollar)
3: Compute the annual rate of return for the project.
4: Compute the profitability index for the project.
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