CLASS / COURSE: Finance
Dell Company is considering adding a new product line and needs to determine the net cash flows and NPV of the proposed product line. Development of the new product will require an initial investment equal to 10% of net Property, Plant, and Equipment (PPE) for the fiscal year ended 2008. The project will then require an additional investment equal to 10% of initial investment after the first year of the project, a 5% increase after the second year, and a 1% after the third, fourth, and fifth years. The project is expected to have a life of five years. First-year revenues for the new product are expected to be 3% pf total revenues for Dell Company fiscal year ended 2008. The new product's revenues are expected to grow at 15% for the second year, 10% for the third, and 5% annually for the final two years of the expected life of the project.
1) Obtain Dell's financial statements. Download the annual income statements, balance sheets, and cash flow statements for the last four fiscal years from www.marketwatch.com (Enter Dell's ticker symbol and then go to financials. Export statements into excel.
2) Determine the Free Cash Flow. Compute the free cash flow for each year using the following equation: free cash flow= unlevered net income/ (revenues-costs- depreciation) x (1-Rc) +Depreciation Â– CapEx- NWC Set up the timeline and computation of free cash flow in separate, contiguous columns for each year of the project life. Be sure to make outflows negative and inflows positive.
a. Assume that the project's profitability will be similar to Dell's existing projects in 2005 and estimate (revenues-costs) each year by using the 2005 EBITDA/Sales profit margin.
b. Determine the annual depreciation by assuming Dell depreciates these assets by the straight-line method over a 10-year life.
c. Determine Dell's tax rate by using the income tax rate in 2005
d. Calculate the net working capital required each year by assuming that the level of NWC will be a constant percentage of the project's sales. Use Dell's 2005 NWC/Sales to estimate the required percentage. (Use only accounts receivables, accounts payable, and inventory to measure working capital. Other components of current assets and liabilities are harder to interpret and not necessarily reflective of the project's required NWC-e.g., Dell's cash holdings).
e. To determine the free cash flow, calculate the additional capital investments and the change in net working capital each year. 3) Determine the IRR of the project and the NPV of the project at a cost of capital of 12% using the Excel function. For the calculations of NPV, include cash flows 1 through 5 in the NPV function and then subtract the initial cost (i.e. = NPV (rate, CF1: CF5) + CF0). For IRR, include cash flows zero through five in the cash flow range.
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SUBJECTS / CATEGORIES:
2. Financial Management
3. Corporate Finance
4. Investment and Portfolio Management