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I am a little stuck and would really appreciate help.

Roxy1992

So I have a resit for Uni accounting module and I am really stuck basically its to figure out NPV (net present value) and also to find the investment for this question, it says I have to find investment for the ONLINE business so do I include Motor expenses etc or just admin expenses as the investment since it is an online business, I am going to post the whole scenario and questions so any help would be very much appreciated

Question 1

QC is evaluating a proposal to start an on-line business at its shop in York that will serve a local area within 10 miles of that shop. The online business will sell butchery, fish and fruit and vegetables sold in the York shop at the same price. The average contribution for these products is 60%.

The following information was obtained for this proposal:

• Motor vehicles: Two vehicles at a cost of £30,000 per vehicle. The vehicles have an expected life of five years and are not expected to have any residual value at the end of their lives. QC uses straight-line depreciation.
• Van drivers: Drivers will be paid £20,000 per annum. Two drivers will be employed in years 1, 2 and 3. Three drivers will be employed in years 4 and 5
• Motor vehicle running costs: Costs are expected to be £8,000 in year 1 then rise by £1,000 per annum for each of the next four years.
• No charge will be made for delivery since a minimum order value of £40 will be set for each order.
• Central services (Accounting, IT etc.): Central services costs will be increased by £80,000 in year 1 then rise by £10,000 per annum for each of the next four years.
• No new premises are required since the on-line business will be run from the York shop’s current premises.
• The company’s cost of capital is 10%. Discount factors: Year 1: 0.909; Year 2: 0.826; Year 3: 0.751; Year 4: 0.683; Year 5: 0.621

The marketing director provided the following figures for sales that will be generated from the on-line business and loss of sales the from the shop’s current business:

Year 1 Year 2 Year 3 Year 4 Year 5
On-line business £200,000 £300,000 £450,000 £600,000 £700,000
Current business -£300,000 -£160,000 -£80,000 £0 £0

Combined sales are expected to fall in the first year due to the impact of implementing and operating the new on-line business at the York shop.

Required

(a) Calculate the net present value for the online business. (18 marks)
(b) Calculate the payback period for the online business. (4 marks)
(c) Discuss the analyses produced for parts (a) and (b). (8 marks)

Reply 1

Roxy1992

Also what do I do with the 60% contribution percentage at the top?

Reply 2

DJKL

Original post by Roxy1992

Also what do I do with the 60% contribution percentage at the top?

Does contribution mean gross profit percentage? You are given sales and foregone sales so it is the only thing I think it can be unless I have missed something.

In essence what you need to do, I think (the structure of the question is unfamiliar to me), is set the numbers into excel on a year by year basis and once you have done this, and applied cost of capital, work out the answers.

It seems to be a basic investment appraisal questions with lumpy cashflow but it is nearly thirty years since I did any exam type question re this so hopefully someone who is more a current student will be along to assist.

Reply 3

MahmoodReza

NPV is a technique involving converting future cash flows to a present value.
Step 1: calculate cash flows, c/s ratio * sales = contribution, on a year by year basis identify cash in - cash out = net cash flow
Step2: calculate pv of each years cash flows - ie cf * discount factor, eg if cost of capital = 10% then disc factor after 1 year = .909, if cash flow = 1.000 then pv= 1000*.909 = 909
Step 3: add all pvs, if =total is -ve then reject investment

Good luck

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I am a little stuck and would really appreciate help.

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