FurniturePlus Ltd is a large homeware retailer with five stores throughout Auckland. It has recently learnt that IKEA is planning to open its first store in New Zealand and this has the executive management team worried. The executives have just returned from a trip to Europe where they visited some IKEA stores to get a better sense of what they are dealing with. They noticed that many IKEA stores have a hotdog stand which sells cheap hotdogs and seems to attract a lot of customers to the store. The executives want to try something similar in New Zealand. However, knowing that hotdogs are less popular in New Zealand, they opt to install pie stalls at their five Auckland stores instead. They want to carry out a net present value (NPV) analysis to decide whether to go ahead with the project. The following details are available on the proposed project which has a time horizon of three years: The cost of the executives' trip to Europe was $45,000. The total capital expenditure related to the pie stands is $825,000 and is payable immediately. The stand and equipment can be depreciated on a straight line basis, resulting in a depreciation expense of $275,000 per year over years 1 to 3. FurniturePlus expects pie sales to generate revenue of $420,000 in year 1, $450,000 in year 2 and $500,000 in year 3. FurniturePlus estimates that cash costs and expenses directly related to this project will be 60% of the total revenue generated by pie sales. In addition to the pie sales mentioned above, FurniturePlus expects that having the pie stands will allow it to retain $250,000 of normal store sales per year that it would otherwise have lost to IKEA. Assume COGS and operating costs are unaffected. Due to required food ingredients, FurniturePlus expects its inventory to increase by $175,000 in year 0. This will be recovered at the end of year 3 and no further effect on operating working capital is expected. The corporate tax rate is 28%. What is the cash flow from operations (CFO) in year 2?

FurniturePlus Ltd is a large homeware retailer with five stores throughout Auckland. It has recently learnt that IKEA is planning to open its first store in New Zealand and this has the executive management team worried. The executives have just returned from a trip to Europe where they visited some IKEA stores to get a better sense of what they are dealing with. They noticed that many IKEA stores have a hotdog stand which sells cheap hotdogs and seems to attract a lot of customers to the store. The executives want to try something similar in New Zealand. However, knowing that hotdogs are less popular in New Zealand, they opt to install pie stalls at their five Auckland stores instead. They want to carry out a net present value (NPV) analysis to decide whether to go ahead with the project. The following details are available on the proposed project which has a time horizon of three years: The cost of the executives' trip to Europe was $45,000. The total capital expenditure related to the pie stands is $825,000 and is payable immediately. The stand and equipment can be depreciated on a straight line basis, resulting in a depreciation expense of $275,000 per year over years 1 to 3. FurniturePlus expects pie sales to generate revenue of $420,000 in year 1, $450,000 in year 2 and $500,000 in year 3. FurniturePlus estimates that cash costs and expenses directly related to this project will be 60% of the total revenue generated by pie sales. In addition to the pie sales mentioned above, FurniturePlus expects that having the pie stands will allow it to retain $250,000 of normal store sales per year that it would otherwise have lost to IKEA. Assume COGS and operating costs are unaffected. Due to required food ingredients, FurniturePlus expects its inventory to increase by $175,000 in year 0. This will be recovered at the end of year 3 and no further effect on operating working capital is expected. The corporate tax rate is 28%. What is the cash flow from operations (CFO) in year 2?

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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FurniturePlus Ltd is a large homeware retailer with five stores throughout Auckland. It has recently learnt that IKEA is planning to open its first store in New Zealand and this has the executive management team worried.

The executives have just returned from a trip to Europe where they visited some IKEA stores to get a better sense of what they are dealing with. They noticed that many IKEA stores have a hotdog stand which sells cheap hotdogs and seems to attract a lot of customers to the store.

The executives want to try something similar in New Zealand. However, knowing that hotdogs are less popular in New Zealand, they opt to install pie stalls at their five Auckland stores instead.

They want to carry out a net present value (NPV) analysis to decide whether to go ahead with the project. The following details are available on the proposed project which has a time horizon of three years:

The cost of the executives' trip to Europe was $45,000.
The total capital expenditure related to the pie stands is $825,000 and is payable immediately.
The stand and equipment can be depreciated on a straight line basis, resulting in a depreciation expense of $275,000 per year over years 1 to 3.
FurniturePlus expects pie sales to generate revenue of $420,000 in year 1, $450,000 in year 2 and $500,000 in year 3.
FurniturePlus estimates that cash costs and expenses directly related to this project will be 60% of the total revenue generated by pie sales.
In addition to the pie sales mentioned above, FurniturePlus expects that having the pie stands will allow it to retain $250,000 of normal store sales per year that it would otherwise have lost to IKEA. Assume COGS and operating costs are unaffected.
Due to required food ingredients, FurniturePlus expects its inventory to increase by $175,000 in year 0. This will be recovered at the end of year 3 and no further effect on operating working capital is expected.
The corporate tax rate is 28%.

What is the cash flow from operations (CFO) in year 2? Thank you!

Expert Solution

Step 1

Given:

Particulars	Year 0	Year 1	Year 2	Year 3
Initial investment	-$825,000
Working capital (WC)	-$175,000
Revenue		$420,000	$450,000	$500,000
Normal sales		$250,000	$250,000	$250,000
Cost		$252,000	$270,000	$300,000
Depreciation		$275,000	$275,000	$275,000

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