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Bauer Industries is an automobile manufacturer. Management is currently evaluating a proposal to build a plant that will manufacture lightweight...

Bauer Industries is an automobile manufacturer. Management is currently evaluating a proposal to build a plant that will manufacture lightweight trucks. Bauer plans to use a cost of capital of 12% to evaluate this project. Based on extensive research, it has prepared the following incremental free cash flow projections ( in millions of dollars)

Year 0 Year 1-9 Year 10
- Manufact exp -35.0 -35.0
- Marketing exp -10.0 -10.0
- Depreciation -15.0 -15.0
= EBIT 40.0 40.0
- Taxes (35%) -14.0 -14.0
= Unleavered net income 26.0 26.0
+ Depreciation +15.0 +15.0
- Increases in net work capital -5.0 -5.0
- Captial Expenditures -150.0
+ Continuation value +12.0
= Free cash flow -150.0 36.0 48.0

For this base-case scenario, what is NPV of the plant to manufacturing lightweight trucks? Based on input from the marketing department, Bauer is uncertain about its revenue forecast. In particular, management would like to examine the sensitivity of the NPV to the revenue assumptions. What is the NPV of this project if revenues are 10% higher than forecast? What is the NPV if revenues are 10% lower than forecast? Rather than assuming that cash flows for this project are constant, management would like to explore the sensitivity of its analysis to possible growth in revenues and operating expenses. Specifically, management would like to assume that revenues, manufacturing expenses, and marketing expenses are a given in the table for year 1 and grow by 2% per every year starting in year 2. Management also plans to assume the initial capital expenditures (and therefore depreciation), additions to working capital, and continuation
value remain as initially, specified in the table. What is the NPV of this project under these alternative assumptions? How does the NPV change if the revenues and operating expenses grown by 5% per year than by 2%?

This question was asked on Feb 07, 2011.

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