JD Sdn Bhd has developed a new industrial detergent that can be used in motor vehicle garages. It would cost RM1 million to buy the equipment necessary to manufacture the blenders, and initially it would require net operating working capital equal to 10% of the 1st year sales. The project would have a life of 5 years. If the project is undertaken, it must be continued for the entire 5 years.
The firm believes it could sell 50,000 units per year. The detergents would sell for RM15 per unit. After the first year, JD intends to increase the sales price by 3% annually.
The variable cost is RM5 per unit. will also increase at the inflation rate of 3%.The company’s fixed costs would be RM250,000 at Year 1 and would also increase at a rate of 3% annually.
The equipment would be depreciated over a 5-year period, using the straight-line method. The annual depreciation will be calculated based on a salvage value of the equipment at the end of the project’s 5-year life of RM100,000. The company however estimated the machine can be sold as scrap for RM250,000. The corporate tax rate is 25%.
The cost of capital is 10%.
a. Develop a spreadsheet model and use it to find the project’s NPV, IRR, and payback.
b. Conduct a sensitivity analysis to determine the sensitivity of NPV to changes in the sales price, number of units sold, the variable costs per unit, fixed costs and the cost of capital. Set these variables’ values at 10% above and 10% below their base-case values. Include a graph in your analysis.
c. Conduct a scenario analysis. Assume that the best-case condition is with no increase in the sales price, a 5% increase in the number of units sold, and a 3% decrease in the variable cost per unit. All other variables remain the same. For the worst-case condition, there will be a 5% decrease in units sold, a 2% decrease in unit price and a 3% increase in the variable cost per unit. The best-case condition, worst-case condition, and the base case are assumed to have an equal probability. Determine the expected NPV, the standard deviation of the NPV and the project’s coefficient of variation NPV.
d. On the basis of your analysis, would you recommend that the project be accepted? What added advise and special attention would you give to the company with regard to the project?
【General guidance】The answer provided below has been developed in a clear step by step manner.Step1/2a. To find the NPV, IRR, and payback of the project, a spreadsheet model can be developed using the given information such as cost of equipment, net operating working capital, sales price, variable cost, fixed cost, depreciation, corporate tax rate, and cost of capital. NPV can be calculated by subtracting the present value of the costs from the present value of the cash inflows. IRR is the discount rate that makes the NPV equal to zero. Payback period is the time it takes for the initial investment to be recovered through cash inflows.b. A sensitivity analysis can be conducted by changing the values of the sales price, number of units sold, variable cost per unit, fixed cost, and cost of capital by 10% above and 10% below their base-case values. The change in NPV can be observ ... See the full answer