- 16 Marks
FM – L2 – Q68 – Discounted Cash Flow
Calculate the expected NPV of a new product launch for Accra Nova Cosmetics Limited with given cash flows and a 12% cost of capital.
Question
Accra Nova Cosmetics Limited has designed a new product that it would like to introduce to the market. It has spent GH¢250,000 on the design work so far. A market research report has indicated that the product will have a life of four years, and at a selling price of GH¢35 per unit, annual sales would be as follows:
| Year | Sales (units) |
|---|---|
| 1 | 40,000 |
| 2 | 60,000 |
| 3 | 60,000 |
| 4 | 20,000 |
It has been estimated that to produce the new product, annual fixed production costs (all cash flows) will increase by GH¢200,000, and the variable cost per unit will be GH¢10.
Other cash flows for the project will be:
- Capital expenditure of GH¢1,400,000 at the beginning of the project. There will be a residual value of GH¢600,000 from this investment at the end of Year 4.
- An investment of GH¢400,000 will be required in working capital. This will be recovered at the end of Year 4.
- Expenditure on advertising will be required, as follows:
| Year | Advertising costs |
|---|---|
| 0 | 800,000 |
| 1 | 600,000 |
| 2 | 400,000 |
| 3 | 200,000 |
Required
(a) Calculate the expected NPV of the project to launch the new product, if the company’s cost of capital is 12%.
(b) Calculate the target cost for the product that is needed to achieve a return of 12% on investment and calculate the size of the current cost gap.
Find Related Questions by Tags, levels, etc.
- Tags: Cost Gap, investment appraisal, NPV, Target Cost, variable costs
- Level: Level 2
- Topic: Discounted cash flow
