Question
Webmasters.com has developed a powerful new server that would be used for corporations internet activities. It would cost $10million to buy the equipment in 2020
Webmasters.com has developed a powerful new server that would be used for corporations internet activities. It would cost $10million to buy the equipment in 2020 that is necessary to manufacture the server in 2021; another $10,000 in shipping cost would be required; and it would cost an additional $30,000 to install the equipment.
Webmasters.com decided to finance the new project by bank loan. Interest payments are made annually at an annual rate of 5% with equal end of year payments of 7 years.
The equipment would be installed in a building owned by the firm and located in Los Angeles. This building, which is vacant now, and the land can be rented for $20,000 annually before taxes. The project would require net working capital at the beginning of each year equal to 10% of sales.
The server would sell for $25,000 per unit, and Webmasters believes that variable costs would amount to $10,000 per unit. After 2022, the sales price and variable costs would increase at least the inflation rate of 3%. The forecasted fixed costs associated with the new project include 12 workers to manufacture the server earning an average of $30,000 each in salaries and benefits. The workers salaries and benefits are expected to grow at an average rate of inflation of 3%.
The server project would have a life of 7 years. If the project is undertaken, it must be continued for the entire 7 years. Also, the projects returns are expected to be high correlated with the returns on the firms other assets. The firm believes it could sell 3,000 units per year.
The equipment would be depreciated over a 9-year period, using MACRS rates. The estimated market value of the equipment at the end of the projects 7-year life is $500,000. Webmasters federal plus state tax rate is 30%. Its cost of capital is 10% for average risk projects, low risk projects are evaluated with WACC of 7% and high risk projects at 13%.
- The firms management has decided to reconsider some estimated variables and has determined the equipment cost, salvage value, variable cost, and fixed costs projection are accurate within +determined the equipment cost, salvage value, variable cost, and fixed costs projection are accurate within 15 %; the selling price and quantity are accurate to within 10. Create a scenario analysis showing the riskiness of the project to the possible changes in equipment cost, salvage value, variable cost, fixed cost, selling price, and the quantity. Include a graph in your analysis. Under which scenario the project should be selected
- Perform the same sensitivity analysis (use increments of 5% from -20% to 20%) for the following uncertain variables: number of units, variable cost, investment in net working capital, salvage value, and inflation rate. Create a sensitivity diagram that includes all these variables
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