Instructions:$$ Complete the following mini$-$case. Submit a Word document that answers the questions and an Excel spreadsheet that supports all your calculations. A template from the class lecture may be used.

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Fashion House, ZORA Designs recently hired you as an assistant to the CFO.$$ Your first task is evaluating whether ZORA should expand by developing a new active business suit line using college football stars.$$ Your research reflects the following information:$$

$$ You expect the proposed project to span the next five years.

$$ Current estimates indicate sales will be $200,000$ units in year one, with $15\%$ sales growth over the following $2$ years and $7\%$ growth in the final $2$ years.$$

$$ The unit price in Year $1$ is $$75.$ Given estimated demand and inflationary pressure, prices are expected to rise by $5\%$ each subsequent year.$$

$$ The project requires purchasing new equipment worth $$45\mathrm{.}5$ million after installation.$$ The new equipment is state$-$of$-$the$-$art, so you expect to be able to sell it for $$5$ million when the project ends.$$

$$ As a result of the project, current assets would increase by $$750,000,$ and payables would increase by $$450,000.$

$$ The new equipment falls into the MACRS $7-$year class, so the applicable rates are $14\mathrm{.}29\%,24\mathrm{.}49\%,17\mathrm{.}49\%,12\mathrm{.}49\%,8\mathrm{.}93\%,8\mathrm{.}92\%,8\mathrm{.}93\%,$ and $4\mathrm{.}46\%$ in each successive year.

$$ Variable costs are estimated to be $25\%$ of the unit price for each year. They will be added along with the number of units sold. No economies of scale.

$$ Fixed costs, excluding depreciation, are estimated at $$2,500,000$ per year

$$ The state$-$plus$-$federal tax rate is $25\%,$

$$ WACC is $12\%.$

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$1.$ Calculate this project's initial cash flow, operating cash flows, and terminal cash flow.

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$2.$ Calculate and interpret this project's payback period, net present value, internal rate of return, modified internal rate of return, and profitability index.$$ Should the project be accepted according to each number? Suppose the acceptable payback period is $4$ years.

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$3.$ Suppose you are not very confident in your estimates for unit sales.$$ To gauge the impact of a wrong estimate, you analyze the sensitivity of NPV to different sales projections.$$ Specifically, you calculate how NPV changes if your initial sales estimates are $10\%,20\%,$ and $30\%$ above your initial estimates.$$ Construct a table that shows the sensitivity analysis.$$ Comment on whether$/$how this affects the decision to implement the project.$$

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$4.$ In addition to the sales forecast, you would like to test the project$$s outcomes under various conditions.$$ Suppose you want to examine the following scenarios:$$

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Scenario

Probability

Unit Sales

Unit Prices $(\%)$

Variable cost $(\%)$

Best case

$25\%$

$18\%$ sales growth for the first $2$ years $($yr $2,3),10\%$ thereafter

$$85$ initially,

then an $8\%$ price increase per year

$20\%$ of the

unit price

Base case

$50\%$

Same as the

initial forecast

Same as the

initial forecast

Same as the

initial forecast

Worst Case

$25\%$

$8\%$ sales growth for the first $2$ years $($yr $2,3),$ and $-2\%$ thereafter

$$72,6\%$ growth

$28\%$ of the

unit price

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Construct a table that shows NPV under the various scenarios, the expected NPV$,$ the standard deviation of NPV$,$ and the coefficient of variation.$$ Comment on whether$/$how this affects the decision to implement the project.

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$5.$ Typical projects for ZORA Designs typically have a coefficient of variation ranging between $7$ to $9.$ A $2-$percentage point risk premium is added to the WACC if the initial CV exceeds $9,$ and the WACC is reduced by $0\mathrm{.}5$ percentage points if the CV is $7$ or less.$$ What should be the WACC for this project?$$ What is the revised value for the base$-$case NPV that was initially estimated?

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$6.$ In addition to the previous risk analysis, are there any externalities ZORA Designs should consider?$*$No calculations are necessary.$$ Consider only conceptual issues$*$