Question

Farah’s Fabulous Fashions (FFF) frequently fabricates fine footwear for famous foreign furriers. However, in her unusually flamboyant style, Farah has decided to bid on a contract to supply the military boots for female soldiers. The contract calls for supplying the military with 100,000 pairs of boots per year over the 5-year life of the project. After spending $250,000 on a feasibility study, Farah believes one of her existing factories can produce the boots after modifying the plant at a cost of $2,600,000. The new plant and equipment will be depreciated to zero over the 5-year life of the project and will have no salvage value. The boots have a variable cost of $44 per pair. Farah’s fixed costs are $900,000 per year. Farah also expects she will be able to sell an additional 25,000 pair of the army boots for $180 per pair to college coeds wanting that military look. Farah’s discount rate is 14% and her tax rate is 40%. What is the minimum price per pair of boots that Farah should bid on the project?

Answer 1

Present Value of profits for 5 years should be intial costs of plant, equipment and feasibilty study =  $2,850,000

Using Goal Seek in Excel for reverse engineering to find equal PROFIT flows in each of the 5 years we find that Annual Profit After Tax = ~$830,158

Profit Before Tax = ~1,383,596

Total Costs = 900,000 + 44*125000 = 6,400,000

Total Revenue should be 1,383,596 + 6,400,000 = 7,783,596

Above revenue includes amount from sales to college coeds = 25000*180 = 4,500,000

Hence, minimum bid should be (7,783,596-4,500,000)/100,000 = $33 per pair (> 32.83596667)