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You have been hired by Internal Business Machines Corporation (IBM) in their capital budgeting division. Your first assignment is to determine the free cash flows and Net Present Value of a proposed new type of tablet computer similar in size to an iPad but with the operating power of a high-end desktop system.
Problem a. Assume that the project's profitability will be similar to IBM's existing projects in the latest fiscal year and estimate (revenues - costs) each year by using the latest EBITDA/Sales profit margin. Calculate EBITDA as EBIT + Depreciation expense from the cash flow statement.
Problem b. Determine the annual depreciation by assuming IBM depreciates these assets by the straight-line method over a five-year life.
Problem c. Calculate the net working capital required each year by assuming that the level of NWC will be a constant percentage of the project's sales. Use IBM's NWC/Sales for the latest fiscal year to estimate the required percentage. (Use only accounts receivable, accounts payable, and inventory to measure working capital. Other components of current assets and liabilities are harder to interpret and not necessarily reflective of the project's required NWC-for example, IBM's cash holdings.)
Problem d. To determine the free cash flow, deduct the additional capital investment and the change in net working capital each year.
Problem e. Compute the Free Cash Flow for each year.
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