Walmart is considering investing $3 million in an automatic sewing machine to produce a newly designed...

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Walmart is considering investing $3 million in an automaticsewing machine to produce a newly designed line of dresses. Thedresses will be priced at $300, and management expects to sell12,000 per year for six years. There is, however, some uncertaintyabout production costs associated with the new machine. Theproduction department has estimated operating costs at 70% ofrevenues, but senior management realizes that this figure couldturn out to be as low as 65% or as high as 75%. The new machinewill be depreciated at a rate of $300,000 per year for six years(straight line, zero salvage). Walmart’s cost of capital is 15% andits marginal tax rate is 30%. Calculate a point estimate along withbest and worst case scenarios for the project’s NPV.
Cash flow in years 1-5
65%
70%
75%
Revenues
Operating Costs
Depreciation
EBT impact
Tax
Eat impact
Add back depreciation
Cash flow
Best
Point Estimate
Worst

Answer & Explanation Solved by verified expert

4.4 Ratings (864 Votes)

All financials below are in There are two noticeable errors in the question The production will last for 6 years Hence the cash flows in the table below are for year 1 to 6 and not 1 to 5 as given in the header of the table Annual depreciation Machine cost Life 3000000 6 500000 and not 300000 as stated in the question Please see the table See Answer

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Transcribed Image Text

Walmart is considering investing $3 million in an automaticsewing machine to produce a newly designed line of dresses. Thedresses will be priced at $300, and management expects to sell12,000 per year for six years. There is, however, some uncertaintyabout production costs associated with the new machine. Theproduction department has estimated operating costs at 70% ofrevenues, but senior management realizes that this figure couldturn out to be as low as 65% or as high as 75%. The new machinewill be depreciated at a rate of $300,000 per year for six years(straight line, zero salvage). Walmart’s cost of capital is 15% andits marginal tax rate is 30%. Calculate a point estimate along withbest and worst case scenarios for the project’s NPV.Cash flow in years 1-565%70%75%RevenuesOperating CostsDepreciationEBT impactTaxEat impactAdd back depreciationCash flow BestPoint EstimateWorst

Cash flow in years 1-5	65%	70%	75%
Revenues
Operating Costs
Depreciation
EBT impact
Tax
Eat impact
Add back depreciation
Cash flow