| You work for Mattel, a profitable toy manufacturer, and you are negotiating with Warner Brothers for the rights to manufacture and sell Harry Potter lunchboxes (you already sell related action figures). Your marketing department estimates that you can sell $800 million worth of lunchboxes per year for 3 years, starting next year. At the end of year 3, you will liquidate the assets of the business. | |||||||
| Given the following information about this new product investment, identify the relevant cash flows, and calculate the investment's net present value, benefit-cost ratio, and internal rate of return. Make whatever assumptions you feel necessary and explain them briefly. |
| ($ in thousands) | ||||
| Marketing Research Costs, to date | $ 20,000 | |||
| Initial cost of new equipment | $ 300,000 | |||
| Licensing rights to use images (To be expensed for tax purposes at time 0) | $ 350,000 | |||
| Expected life | 5 yrs | |||
| Salvage value | 0 | |||
| Depreciation method | Straight-line over 5 years to 0 salvage value | |||
| Selling price of new equipment in 3 years* | $ 130,000 | |||
| Incremental annual sales | $ 800,000 | |||
| Incremental annual production costs | $ 200,000 | |||
| Incremental annual selling | ||||
| and administrative costs | $ 80,000 | |||
| Current annual overhead costs | $ 200,000 | |||
| Immediate advertising expenses for launch (To be expensed for tax purposes at tme 0) | $ 190,000 | |||
| Tax rate | 40% | |||
| Working capital required, as a % of production costs | 7.50% | (Needed at time 0.) | ||
| Minimum required rate of return | 10% | |||
| *The company must pay a 40% tax on the difference between the selling price and the asset's book value at time of sale. | ||||
