Brutech Corporation is considering whether or not to launch its new product, a kioskfor checking in medical patients at doctor’s offices. Marketing research is confidentthe kioskwill sell 1,300units per year, but the finance department is also evaluating the risks that unit sales and other key forecast variables might pose if the initial data differs from reality.
In the Base Case, the selling price on the 1,300 units will be $2,100 per kiosk. Variable costsper unitwill be $1,300, and fixed costs will be $200,000 per year. The company pays a tax rate of 34%. The total investment needed to undertake the projectis $2,500,000. This amount (I) will be depreciated straight-line to zero over the five-year life of the equipment. The salvage value is zero, and there are no working capital consequences. Brutechhas a 25percent required return on new projects.
Theproject has a zero NPV when the present value of the operating cash flows equals the $2,500,000 investment. Because the cash flow is the same each year, we can solve for the unknown amount by viewing it as an ordinary annuity. Sincethe formula for calculating PVIFAr,Nis [1-(1+r)-N]/r, the PVIFA25%,5= [1-(1.25)-5]/0.25= (1-.326780) / 0.25 = .672320 / 0.25 = 2.6893TheOCF* can /be determined as follows:OCF*= $2,500,000/2.6893
Lower Bound Upper Bound
Unit Sales 1,200 1,400
Sales price per unit $1,800 $2,400
Variable cost per unit $1,100 $1,500
Fixed Costs $150,000 $250,000
1-What is the Best Case Operating Cash Flow?
2-What is the Worst Case Operating Cash Flow?
3-What is the Base Case Operating Cash Flow?