Abandonment Decisions Allied Products, Inc., is considering a new product launch. The firm expects to have annual

Question:

Abandonment Decisions Allied Products, Inc., is considering a new product launch. The firm expects to have annual operating cash flow of $25 million for the next 10 years. Allied Products uses a discount rate of 20 percent for new product launches. The initial investment is $100 million. Assume that the project has no salvage value at the end of its economic life.

a. What is the NPV of the new product?

b. After the first year, the project can be dismantled and sold for $50 million. If the estimates of remaining cash flows are revised based on the first year’s experience, at what level of expected cash flows does it make sense to abandon the project?

Salvage Value
Salvage value is the estimated book value of an asset after depreciation is complete, based on what a company expects to receive in exchange for the asset at the end of its useful life. As such, an asset’s estimated salvage value is an important... Discount Rate
Depending upon the context, the discount rate has two different definitions and usages. First, the discount rate refers to the interest rate charged to the commercial banks and other financial institutions for the loans they take from the Federal...