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Kris Inc., a technology company that specializes in social networking services and products, is considering entering the gaming business in a short venture. Kris expects to stay in the gaming business for 5 years. The project will have an initial capital investment of $60 million and you have been provided with the following projections on the venture (in millions): Year Revenue Depreciation Other Operating Expenses 1 45 15 18 2 55 12 21 3 65 10 25 4 70 8 29 5 75 6 31 • Non-cash working capital is expected to be 10% of revenues, with the investment being made at the end of each year. At the end of the project, it is anticipated that the entire working capital will be salvaged. • At the end of year 5, you can expect to sell all of the project's remaining assets at book value. • The cost of capital for the gaming project is 11% and the cost of capital for the social networking services is 12%. • The marginal tax rate is 40%. a. Estimate the NPV of this investment. (9 marks) b. Entering the gaming business will increase Kris's existing business's revenues by $30 million each year for the next 5 years. Assuming that the pre-tax operating margin in the existing business is 20%, what effect does this have on the NPV of the gaming project? (Pre-tax operating margin = Pre-tax operating income as % of revenue). (4 marks) c. Assume that Kris has been given the option to immediately expense $21 million of the $60 million initial investment and depreciate the balance of $39 million over a 5-year period to a book value of 9 million. Assuming that all other inputs are unchanged, how much will the NPV change if Kris switches depreciation methods? (6 marks) Kris Inc., a technology company that specializes in social networking services and products, is considering entering the gaming business in a short venture. Kris expects to stay in the gaming business for 5 years. The project will have an initial capital investment of $60 million and you have been provided with the following projections on the venture (in millions): Year Revenue Depreciation Other Operating Expenses 1 45 15 18 2 55 12 21 3 65 10 25 4 70 8 29 5 75 6 31 • Non-cash working capital is expected to be 10% of revenues, with the investment being made at the end of each year. At the end of the project, it is anticipated that the entire working capital will be salvaged. • At the end of year 5, you can expect to sell all of the project's remaining assets at book value. • The cost of capital for the gaming project is 11% and the cost of capital for the social networking services is 12%. • The marginal tax rate is 40%. a. Estimate the NPV of this investment. (9 marks) b. Entering the gaming business will increase Kris's existing business's revenues by $30 million each year for the next 5 years. Assuming that the pre-tax operating margin in the existing business is 20%, what effect does this have on the NPV of the gaming project? (Pre-tax operating margin = Pre-tax operating income as % of revenue). (4 marks) c. Assume that Kris has been given the option to immediately expense $21 million of the $60 million initial investment and depreciate the balance of $39 million over a 5-year period to a book value of 9 million. Assuming that all other inputs are unchanged, how much will the NPV change if Kris switches depreciation methods? (6 marks)
Expert Answer:
Answer rating: 100% (QA)
a The NPV of this investment is 609 million NPV 60 45111 151112 651113 101114 701115 10 x 45 15 ... View the full answer
Related Book For
Strategic Management An Integrated Approach
ISBN: 978-1111825843
10th edition
Authors: Charles W. L. Hill, Gareth R. Jones
Posted Date:
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