Xespresso is launching a new type of espresso coffee machine. Production requires an initial investment of £85m in year zero. The project is expected to last 5 years, after which the new machine is expected to become obsolete and production will be discontinued. £10m are expected to be recovered in year 5 by selling production facilities. Sales of the new machine are expected to be worth £30m in each of years 1-5. Operating costs will be £10m per year in each of years 1-5. The company is expecting to accumulate an inventory equal to 10% of sales in year 1, which will be maintained throughout years 1-4 and then sold in year 5. Assume for simplicity that there are no taxes and all cash flows (including working capital investments) occur at the end of the year. a. Determine the project's NPV using a 10% discount factor. Should the company undertake this project? b. Assume that the company has a beta equal to 2 and a debt to equity ratio equal to one. The risk free rate is 4% and the market risk premium is 6%. Determine the NPV of the project when the company's debt is risk free. Should the company undertake the project given the new data?
Xespresso is launching a new type of espresso coffee machine. Production requires an initial investment of £85m in year zero. The project is expected to last 5 years, after which the new machine is expected to become obsolete and production will be discontinued. £10m are expected to be recovered in year 5 by selling production facilities. Sales of the new machine are expected to be worth £30m in each of years 1-5. Operating costs will be £10m per year in each of years 1-5. The company is expecting to accumulate an inventory equal to 10% of sales in year 1, which will be maintained throughout years 1-4 and then sold in year 5. Assume for simplicity that there are no taxes and all cash flows (including working capital investments) occur at the end of the year. a. Determine the project's NPV using a 10% discount factor. Should the company undertake this project? b. Assume that the company has a beta equal to 2 and a debt to equity ratio equal to one. The risk free rate is 4% and the market risk premium is 6%. Determine the NPV of the project when the company's debt is risk free. Should the company undertake the project given the new data?
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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![Xespresso is launching a new type of espresso coffee machine. Production requires an initial
investment of £85m in year zero. The project is expected to last 5 years, after which the new
machine is expected to become obsolete and production will be discontinued. £10m are expected to
be recovered in year 5 by selling production facilities. Sales of the new machine are expected to be
worth £30m in each of years 1-5. Operating costs will be £10m per year in each of years 1-5. The
company is expecting to accumulate an inventory equal to 10% of sales in year 1, which will be
maintained throughout years 1-4 and then sold in year 5. Assume for simplicity that there are no
taxes and all cash flows (including working capital investments) occur at the end of the year.
a. Determine the project's NPV using a 10% discount factor. Should the company undertake this
project?
b. Assume that the company has a beta equal to 2 and a debt to equity ratio equal to one. The
risk free rate is 4% and the market risk premium is 6%. Determine the NPV of the project
when the company's debt is risk free. Should the company undertake the project given the
new data?](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2Fdb01d77d-cf91-453c-8fe3-ee08d83fa587%2F3c85c49e-0472-4c3c-b14e-9451c1706b0f%2Feoefdb5_processed.png&w=3840&q=75)
Transcribed Image Text:Xespresso is launching a new type of espresso coffee machine. Production requires an initial
investment of £85m in year zero. The project is expected to last 5 years, after which the new
machine is expected to become obsolete and production will be discontinued. £10m are expected to
be recovered in year 5 by selling production facilities. Sales of the new machine are expected to be
worth £30m in each of years 1-5. Operating costs will be £10m per year in each of years 1-5. The
company is expecting to accumulate an inventory equal to 10% of sales in year 1, which will be
maintained throughout years 1-4 and then sold in year 5. Assume for simplicity that there are no
taxes and all cash flows (including working capital investments) occur at the end of the year.
a. Determine the project's NPV using a 10% discount factor. Should the company undertake this
project?
b. Assume that the company has a beta equal to 2 and a debt to equity ratio equal to one. The
risk free rate is 4% and the market risk premium is 6%. Determine the NPV of the project
when the company's debt is risk free. Should the company undertake the project given the
new data?
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