Calculate the Payback Period (P/B) and the NPV
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Superior Manufacturing is thinking of launching a new product. The company expects to sell $950,000 of the new product in the first year and $1,500,000 each year thereafter. Direct costs including labor and materials will be 55% of sales. Indirect incremental costs are estimated at $80,000 a year. The project requires a new plant that will cost a total of $1,000,000, which will be depreciated straight line over the next five years. The new line will also require an additional net investment in inventory and receivables in the amount of $200,000. Assume there is no need for additional investment in building and land for the project. The firm's marginal tax rate is 35%, and its cost of capital is 10%. Based on this information you are to complete the following tasks.
1. Prepare a statement showing the incremental cash flows for this project over an 8-year period.
2. Calculate the Payback Period (P/B) and the NPV for the project.
3. Based on your answer for question 2, do you think the project should be accepted? Why? Assume Superior has a P/B (payback) policy of not accepting projects with life of over three years.
4. If the project required additional investment in land and building, how would this affect your decision? Explain.
Please show all work, including formulae and calculations used to arrive at financial values.
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Hi there,
Please see the attached Excel spreadsheet. Also, here is a link that will help you to understand how NPV works and how to calculate it in Excel:
http://www2.hpu.edu/mlane/ExcelNPV.htm
Also, here is some info on payback period:
Payback Period
Payback period is the length of time required to recover the cost of an investment (e.g. purchase of computer Software or hardware), usually measured in years. Like IRR, the Payback Period metric takes essentially an "Investment" view of the action, plan, or scenario, and its estimated cash flow stream. Other things being equal, the better investment is the one with the shorter ...
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