Question
You have just inherited $300,000 and have decided to purchase at least one established franchise in the fast food industry or possibly two if profitable.
You have just inherited $300,000 and have decided to purchase at least one established franchise in the fast food industry or possibly two if profitable. Your investment horizon is 3 years. You have narrowed down your choices to two choices: (1) Franchise L: Lisas Soups, Salads, and Stuff and (2) Franchise S: Sams Fried Chicken. The net cash flows shown below include the price you would receive for selling the franchise in 3 years and the forecast of how each franchise will do over the 3-year period. Franchise Ls cash flows will start off slowly but will increase rather quickly as people become more health conscious, while Franchise Ss cash flows will start off high but will trail off as other chicken competitors enter the marketplace and as people become more health conscious and avoid fried foods. Franchise L serves breakfast and lunch, while franchise S serves only dinner, so it is possible to invest in both franchises. You see these franchises as perfect complements to on another: you could attract both the lunch and dinner crowds and the health conscious and not so health conscious crowds with the franchises directly competing against one another.
Here are the projects net cash flows (in thousands of dollars):
Expected Net Cash Flows
Year Franchise L Franchise S
0 ($100) ($100)
1 10 70
2 60 50
3 80 20
Depreciation, salvage values, net working capital requirements, and tax effects are all included in these cash flows. You have made subjective risk assessment of each franchise, and concluded that both franchise have risk characteristics that require a return 10%. You must now determine whether one or both of the projects should be accepted.
1. The NPV of franchise L is ____________
2. The NPV of franchise S is ____________
3. The IRR of franchise L is _____________
4. The IRR of franchise S is _____________
5. The MIRR of L is ________
6. The MIRR is S is ________
7. Draw NPV profiles for both franchises. Show at what discount rate do the profiles cross?
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