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NPV- Sensitivity Analysis

Bauer Industries is an automobile manufacturer. Management is currently evaluating a proposal to build a plant that will manufacture lightweight trucks. Bauer plans to use a cost capital of 12% to evaluate this project. Based on the extensive research, it has prepared the following incremental free cash flow projections (in millions of dollars)

Year 0 Years 1-9 Year 10
Revenues 100.0 100.0
- Manufacturing expenses(other depreciation) -35.0 -35.0
- Marketing expenses -10.0 -10.0
-Depreciation -15.0 -15.0
=EBIT 40.0 40.0
-Taxes (35%) -14.0 -14.0
= Unlevered net income 26.0 26.0
+ Depreciation 15.0 15.0
- Increases in net working capital -5.0 -5.0
- Capital expenditures -150
+ Continuation value 12.0
= Free cash flow -150 36.0 48.0

a. For this senario, what is the NPV of the plant to manufacture lightweight trucks?

b. Based on the input from the marketing department, Bauer is uncertain about its revenue forcast. In particular management would like to examine the sensitivity of the NPV to the revenue assumptions? What is the NVP of this project if the revenues are 10% higher than the forecast? What is the NPV if the revenues are lower than the forecast?

c. Rather than assumming that cash flow for this project are constant, management would like to explore the sensitivity of its analysis to possible growth in revenues and operating expenses. Specifically, management would like to assume that revenues, manufacturing expenses and marketing expenses are as given in the table for year 1 and grow by 2% per year every year starting in year 2. Management also plans to assume that the intial capital expenditures (and therefore depreciation), additions to working capital, and continuation value remain as initially specified in the table. What is the NPV of this project under these alternative assumptions? How does the NPV change if the revenues and operating expenses grow by 5% per year rather than 2%?

d. To examine the sensitivity of this project to the discount rate, management would like to compute the NPV for the different discount rates. Create a graph, with the discount rate on the x-axis and the NPV on the y-axis for discount rates ranging from 5% to 30%. For what ranges of discount rates does the project have a positive NPV?


Solution Summary

Calculates NPV and carries out sensitivity analysis