Sally wants to purchase a Burger Barn franchise. She can buy one for $ 750,000. Burger Barn
Question:
Sally wants to purchase a Burger Barn franchise. She can buy one for $ 750,000. Burger Barn headquarters provides the following information:
Estimated annual cash revenues $ 420,000
Typical annual cash operating expenses $ 248,000
Sally will also have to pay Burger Barn a franchise fee of 10% of her revenues each year. Sally wants to earn at least 10% on the investment because she has to borrow the $ 750,000 at a cost of 6%. Use an 11- year window and ignore taxes.
Required
1. Find the NPV and IRR of Sally’s investment.
2. Sally is nervous about the revenue estimate provided by Burger Barn headquarters. Calculate the NPV and IRR under alternative annual revenue estimates of $ 390,000 and $ 360,000. Assume cash operating expenses of $ 248,000 each year and a franchise fee of 10% of revenues.
3. Sally estimates that if her revenues are lower, her costs will be lower as well. For each revised level of revenue used in requirement 2, recalculate NPV and IRR with a proportional decrease in annual operating expenses.
4. Suppose Sally also negotiates a lower franchise and has to pay Burger Barn only 8% of annual revenues. Redo the calculations in requirement 3.
5. Discuss how the sensitivity analysis will affect Sally’s decision to buy the franchise.
Step by Step Answer:
1 Given the annual operating cash outflows of 248000 and the payment of 10 of revenues 10 420000 42000 the net cash inflows for each period are as follows Period 0 1 11 Cash inflows 420000 Cash outflo...View the full answer
Managerial Accounting Decision Making and Motivating Performance
ISBN: 978-0137024872
1st edition
Authors: Srikant M. Datar, Madhav V. Rajan
Related Video
NPV stands for \"Net Present Value,\" which is a financial concept used to determine the value of an investment or project. It measures the difference between the present value of cash inflows and the present value of cash outflows over a given period of time, using a specific discount rate. To calculate the NPV of an investment, you need to first estimate the cash inflows and outflows associated with the investment, and then discount them back to their present values using a discount rate. The discount rate represents the cost of capital or the expected rate of return required by investors. The formula for calculating NPV is: NPV = sum of (cash inflows / (1 + discount rate)^t) - sum of (cash outflows / (1 + discount rate)^t) Where: Cash inflows: the expected cash received from the investment Cash outflows: the expected cash paid out for the investment Discount rate: the required rate of return or the cost of capital t: the time period in which the cash flow occurs If the NPV is positive, it means that the investment is expected to generate a return higher than the required rate of return or the cost of capital, and it may be considered a good investment. If the NPV is negative, it means that the investment is not expected to generate a return higher than the required rate of return or the cost of capital, and it may be considered a bad investment.
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