Problem #2 Lebanon Metal Company (LMC), a manufacturer of various metal parts, must decide whether to enter the competition to become the supplier of transmission housings for Gulf Electric, a company that produces the housings in its own in-house manufacturing To compete, LMC must purchase a new forge that will cost $150,000. If LMC gets the order, it may be able to sell as many as 3,000 units per year to Gulf Electric for $60 each, and costs will be $15 per unit. The firm expects that the project will have about five-year product life. The firm also estimates that the amount ordered by Gulf Electric in the first year will be ordered in each of the subsequent four years. The initial investment can be depreciated on a MACRS-GDS basis over a 5 -year period, and the tax-rate is expected to remain 40%. At the end of five years, the forge is expected to retain a market value of $50,000 at the end of year 5. LMC's before tax MARR is 15% per year.
Problem #2 Lebanon Metal Company (LMC), a manufacturer of various metal parts, must decide whether to enter the competition to become the supplier of transmission housings for Gulf Electric, a company that produces the housings in its own in-house manufacturing To compete, LMC must purchase a new forge that will cost $150,000. If LMC gets the order, it may be able to sell as many as 3,000 units per year to Gulf Electric for $60 each, and costs will be $15 per unit. The firm expects that the project will have about five-year product life. The firm also estimates that the amount ordered by Gulf Electric in the first year will be ordered in each of the subsequent four years. The initial investment can be depreciated on a MACRS-GDS basis over a 5 -year period, and the tax-rate is expected to remain 40%. At the end of five years, the forge is expected to retain a market value of $50,000 at the end of year 5. LMC's before tax MARR is 15% per year.
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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Transcribed Image Text:Problem #2
Lebanon Metal Company (LMC), a manufacturer of various metal parts, must decide
whether to enter the competition to become the supplier of transmission housings for Gulf
Electric, a company that produces the housings in its own in-house manufacturing To
compete, LMC must purchase a new forge that will cost $150,000.
If LMC gets the order, it may be able to sell as many as 3,000 units per year to Gulf Electric
for $60 each, and costs will be $15 per unit.
The firm expects that the project will have about five-year product life. The firm also
estimates that the amount ordered by Gulf Electric in the first year will be ordered in each
of the subsequent four years.
The initial investment can be depreciated on a MACRS-GDS basis over a 5 -year period, and
the tax-rate is expected to remain 40%. At the end of five years, the forge is expected to
retain a market value of $50,000 at the end of year 5.
LMC's before tax MARR is 5% per year.
Problem #2
Part A: Create a spreadsheet to determine whether LMC should enter the competition to
become the supplier of transmission housings for Gulf Electric.Calculate the present-worth
of ATCF to decide if it is a good investment.
Part B:LMC's managers are uneasy about this project, because too many uncertain elements
have not been considered in the analysis. Perform a sensitivity analysis for each variable
(initial investment, selling price, demand, market value , study period and
MARR).
Graphically, using a spider plot, investigate the sensitivity of the PW of the BTCF to changes
in the above factors. Investigate changes over the interval + 20%. To which variable is the
project the most sensitive?
Part C: LMC's managers become convinced that the PW is quite sensitive to changes in
market value. Determine the break-even PW as a function of that variable.
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