Question

# Emperor’s Clothes Fashions can invest \$8 million in a new plant for producing invisible makeup. The...

Emperor’s Clothes Fashions can invest \$8 million in a new plant for producing invisible makeup. The plant has an expected life of 5 years, and expected sales are 9 million jars of makeup a year. Fixed costs are \$2.9 million a year, and variable costs are \$2.10 per jar. The product will be priced at \$3.10 per jar. The plant will be depreciated straight-line over 5 years to a salvage value of zero. The opportunity cost of capital is 10%, and the tax rate is 30%.

a. What is project NPV under these base-case assumptions?

b. What is NPV if variable costs turn out to be \$2.40 per jar?

c. What is NPV if fixed costs turn out to be \$2.2 million per year?

d. At what price per jar would project NPV equal zero?

 Emperor 0 1 2 3 4 5 Investment -8,000,000 Sales 27,900,000 27,900,000 27,900,000 27,900,000 27,900,000 VC -18,900,000 -18,900,000 -18,900,000 -18,900,000 -18,900,000 FC -2,900,000 -2,900,000 -2,900,000 -2,900,000 -2,900,000 Depreciation -1,600,000 -1,600,000 -1,600,000 -1,600,000 -1,600,000 EBT 4,500,000 4,500,000 4,500,000 4,500,000 4,500,000 Tax (30%) -1,350,000 -1,350,000 -1,350,000 -1,350,000 -1,350,000 Net Income 3,150,000 3,150,000 3,150,000 3,150,000 3,150,000 Cash Flows -8,000,000 4,750,000 4,750,000 4,750,000 4,750,000 4,750,000 NPV \$10,006,237.15

Cash Flows = Investment + Net Income + Depreciation

NPV can be calculated using the same function in excel or calculator using 10% discount rate.

If VC = 2.4 per jar, then NPV = \$2,841,650.16

If FC = 2.2m, then NPV = \$11,863,722.67

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