Problem:
A company has recently completed a $5,000,000 two-year marketing study. Based on the results of this study, the company has estimated that 500 units of its new hardware could be sold annually over the next 12 years, at a price of $100,000 each for the first 6 years. The sales price is expected to drop to $75,000 in years 7-12. Variable costs per unit are $50,000 and incremental cash fixed costs total $15 million per year all 12 years.
Start-up costs include $75 million to build production facilities, $25 million for land, and net operating working capital is projected to be 14% of next year sakes. The $75 million facility will be depreciated on a straight-line basis to a value of zero over the twelve-year life of the project. At the end of the project's life, the facilities (including the land) will be sold for an estimated $15 million. The value of the land will not change during this time period.
Finally, start up would also entail one-time tax-deductible cash expenses of $5 million at year zero. This company is a profitable business and pays taxes at a 30% rate. It's opportunity cost of capital for projects such as this is 10%.
Be sure to label and explain your answers to the following questions and express your numbers in millions of dollars where appropriate.
Question 1) What is the year 0 initial cash flow?
Question 2) What is the annual cash flow for the project for years 1 through 12?
Question 3) What is the year 10 terminal cash flow?
Question 4) Place your cash flow estimates on a time line.
Question 5) Calculate the following for the project: NPV, IRR, and MIRR.