(Calculating free cash flows) At present, Solartech Skateboards is considering expanding its product line to include
Posted: Sun Apr 17, 2022 6:24 pm
(Calculating free cash flows) At present, Solartech
Skateboards is considering expanding its product line to include
gas-powered skateboards; however, it is questionable how well they
will be received by skateboarders. Although you feel there is a 40
percent chance you will sell 12,000 of these per year for 10 years
(after which time this project is expected to shut down because
solar-powered skateboards will become more popular), you also
recognize that there is a 30 percent chance that you will only sell
2,000 and also a 30 percent chance you will sell 17,000. The gas
skateboards would sell for $120 each and have a variable cost of
$50 each. Regardless of how many you sell, the annual fixed costs
associated with production would be $160,000. In addition, there
would be an initial expenditure of $800,000 associated with the
purchase of new production equipment which will be depreciated
using the bonus depreciation method in year 1. Because of the
number of stores that will need inventory, the working capital
requirements are the same regardless of the level of sales. This
project will require a one-time initial investment of $60,000 in
net working capital, and working-capital investment will be
recovered when the project is shut down. Finally, assume that the
firm's marginal tax rate is 22 percent.
a. What is the initial outlay associated with the project?
b. What are the annual free cash flows associated with the
project for years 1, and 2 through 9 under each sales forecast?
What are the expected annual free cash flows for year 1, and years
2 through 9?
c. What is the terminal cash flow in year 10 (that is, what is
the free cash flow in year 10 plus any additional cash flows
associated with the termination of the project)?
d. Using the expected free cash flows, what is the project's
NPV given a required rate of return of percent? What would the
project's NPV be if 12,000 skateboards were sold?
Skateboards is considering expanding its product line to include
gas-powered skateboards; however, it is questionable how well they
will be received by skateboarders. Although you feel there is a 40
percent chance you will sell 12,000 of these per year for 10 years
(after which time this project is expected to shut down because
solar-powered skateboards will become more popular), you also
recognize that there is a 30 percent chance that you will only sell
2,000 and also a 30 percent chance you will sell 17,000. The gas
skateboards would sell for $120 each and have a variable cost of
$50 each. Regardless of how many you sell, the annual fixed costs
associated with production would be $160,000. In addition, there
would be an initial expenditure of $800,000 associated with the
purchase of new production equipment which will be depreciated
using the bonus depreciation method in year 1. Because of the
number of stores that will need inventory, the working capital
requirements are the same regardless of the level of sales. This
project will require a one-time initial investment of $60,000 in
net working capital, and working-capital investment will be
recovered when the project is shut down. Finally, assume that the
firm's marginal tax rate is 22 percent.
a. What is the initial outlay associated with the project?
b. What are the annual free cash flows associated with the
project for years 1, and 2 through 9 under each sales forecast?
What are the expected annual free cash flows for year 1, and years
2 through 9?
c. What is the terminal cash flow in year 10 (that is, what is
the free cash flow in year 10 plus any additional cash flows
associated with the termination of the project)?
d. Using the expected free cash flows, what is the project's
NPV given a required rate of return of percent? What would the
project's NPV be if 12,000 skateboards were sold?