Part 2 TKM0844 11E IM Ch12
Chapter 12
Analyzing Project Cash Flows
12-1.
Captain’s Cereal’s new Crunch Stuff n’ Stars is expected to generate $25M in sales. However,
20% of that will be cannibalized from the original cereal, Crunch Stuff. Thus, the sales amount that should be allocated to the new Stars version is only (100% − 20%) of the $25M, or $20M.
This is an example of finding an “incremental” cash flow. As shown in equation 12-1, we only want to consider what is different if we go ahead with the project: incremental project cash flows = firm cash flows with project − firm cash flows without project.
Say, for example, that Crunch Stuff had $30M in sales last year, and would maintain this level this year if the new Stars cereal is not launched. Then: incremental project cash flows = firm sales with both cereals − firm sales with Crunch Stuff only
= [new Crunch Stuff + new Stars sales] − $30M
= [$25M + ($30M − $5M)] − $30M
↑
cannibalized sales
= $20M.
12-2.
Here we have a new cereal launch, for Stones n’ Stuff. Fruity Stones, the manufacturer, expects that this new cereal will generate $100M in sales, and that 40% of these sales come from former buyers of the firm’s other cereal, Jolt n’ Stones. In Problem 12-1, we reduced the sales attributable to a new cereal by the sales it cannibalized from an old cereal. However, the Stone’s n’ Stuff case is different. Jolt n’ Stones (the old cereal) would have lost sales regardless of the Stones n’ Stuff launch, since a competitor firm is also launching a new cereal. Thus even if the Fruity Stones company did not launch Stones n’ Stuff (the new cereal), Jolt n’ Stones would have lost sales. We cannot therefore attribute this loss in sales of the old cereal to the new cereal. We therefore consider the full $100M in sales to be incremental to Stones n’ Stuff.
We can see this with equation 12-1: incremental project cash flows = firm cash flows with project − firm cash flows without project. incremental project cash flows = firm sales with both
Analyzing Project Cash Flows
12-1.
Captain’s Cereal’s new Crunch Stuff n’ Stars is expected to generate $25M in sales. However,
20% of that will be cannibalized from the original cereal, Crunch Stuff. Thus, the sales amount that should be allocated to the new Stars version is only (100% − 20%) of the $25M, or $20M.
This is an example of finding an “incremental” cash flow. As shown in equation 12-1, we only want to consider what is different if we go ahead with the project: incremental project cash flows = firm cash flows with project − firm cash flows without project.
Say, for example, that Crunch Stuff had $30M in sales last year, and would maintain this level this year if the new Stars cereal is not launched. Then: incremental project cash flows = firm sales with both cereals − firm sales with Crunch Stuff only
= [new Crunch Stuff + new Stars sales] − $30M
= [$25M + ($30M − $5M)] − $30M
↑
cannibalized sales
= $20M.
12-2.
Here we have a new cereal launch, for Stones n’ Stuff. Fruity Stones, the manufacturer, expects that this new cereal will generate $100M in sales, and that 40% of these sales come from former buyers of the firm’s other cereal, Jolt n’ Stones. In Problem 12-1, we reduced the sales attributable to a new cereal by the sales it cannibalized from an old cereal. However, the Stone’s n’ Stuff case is different. Jolt n’ Stones (the old cereal) would have lost sales regardless of the Stones n’ Stuff launch, since a competitor firm is also launching a new cereal. Thus even if the Fruity Stones company did not launch Stones n’ Stuff (the new cereal), Jolt n’ Stones would have lost sales. We cannot therefore attribute this loss in sales of the old cereal to the new cereal. We therefore consider the full $100M in sales to be incremental to Stones n’ Stuff.
We can see this with equation 12-1: incremental project cash flows = firm cash flows with project − firm cash flows without project. incremental project cash flows = firm sales with both