Question

We are examining a new project. We expect to sell 6,400 units per year at $58 net cash flow apiece for the next 10 years. In other words, the annual operating cash flow is projected to be $58 × 6,400 = $371,200. The relevant discount rate is 12 percent, and the initial investment required is $1,750,000. a. What is the base-case NPV? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) b. After the first year, the project can be dismantled and sold for $1,620,000. If expected sales are revised based on the first year’s performance, below what level of expected sales would it make sense to abandon the project? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

Answer 1

NPV = PV of FCF - Initial Investment

PV of FCF can be calculated using PV function on a calculator

N = 10, PMT = 371,200, FV = 0, I/Y = 12% => Compute PV = $2,097,362.79

NPV = 2,097,362.79 - 1,750,000 = $347,362.79 is the base case NPV.

Now, if would make sense to abandon the project if the present value of cash flows for the remaining 9 years is less than 1,620,000

Using PMT function, we can calculate annual cash flows

N = 9, I/Y = 12%, PV = 1,620,000, FV = 0 => Compute PMT = $304,039.80

Unit Sales = 304,039.80 / 58 = 5,242 units.