FIN370
45. In four years, an existing machine will have a zero book value and market value of $4200. A new machine costing $26400 can replace this machine, lower variable costs by $8200 a year, and have a market value of $13300 and a zero book value in 4 years. The incremental depreciation is $5300. The tax rate is 35 percent. What is the free cash flow for year 4?
$13,100 Formula: OCF = ($8200 - $5300)(1-0.35) + $5300 = $7185 FCF = $7185 + $13300(1-0.35) - $4200(1-035) = $13100
23. A project requires $15,000 of net working capital throughout its 5-year life. How is this requirement handled in project analysis? Select all that apply
$15000 is a cash outflow at time zero $15000 is a cash inflow in year 5
48. The values for the first year of a project are: Expected sales of 280 units, a selling price of $46, fixed costs of $3100, depreciation of $1100, variable cost per unit of $28, and a tax rate of 35 percent. What is the OCF?
$1646 Formula: OCF={[280($46-$48)}-$3100-$1100)}(1-0.35)+$1100
47. A project has a 2-year life, net income of $14500 a year, and a tax rate of 34 percent. The project requires $6000 of equipment which will be depreciated straight-line over 3 years, and have a market value of $2500 at the end of year 2. The NWC requirement is $1500. What is the total cash flow for year 2?
$20,330 Formula: OCF=$14,500 + ($6,000/3) = $16,500 Book value at end of year 2=$6,000/3=$2,000; ATCF=$2,000+($2,500-$2,000)(1-.034)=$2,330; Year 2 cash flow = $16,500+$1500+$2,330=$20,330
69. An asset has a depreciable basis of $13200 and qualifies as 3-year MACRS property. The MACRS percentages are: 16.67, 33.33, 33.33, and 16.67 percent for years 1 to 4, respectively. What is the year 3 ending book value?
$2200.44 Formula: Book Value3 = $13200 x (1 - 01667 - 0.3333 - 0.3333) = $2200.44
24. A new project requires $2400 of equipment which will be depreciated straight-line to zero over the project's 4-year life. The project reuires $2400 of NWC, the annual OCF is $16000 and the tax rate is 35 percent. The equipment's market value at the end of year 4 is $5000. What cash flow occur in year 4? Select all that apply.
$2400 $5000 x (1-0.35)
63. An asset has a 3-year life and a depreciable basis of $16400. What is the depreciation in year 4 given straight-line depreciation with half-year convention? The depreciation table percentages are 16.67, 33.33, 33.33, 16.67 percent for years 1 to 4, respectively.
$2733.88 Formula: DepreciationYear4 = 0.1667 x $16400 = $2733.88
41. Leo's currently sells $5000 of wood toys and $2000 of metal toys. Leo's wants to begin selling plastic toys. If it does, the expected sales are $7500 of wood toys, $2500 of metal toys. What is the value of the complementary effect of the plastic toys?
$3000
27. A firm has an existing asset with a book value of $6600 and annual depreciation of $2200. Assume this asset is replaced with a new asset costing $15400. The new asset will be depreciation straight-line over its 5-year life. What is the incremental depreciation for year 4?
$3080 Formula: Depreciation = $15400/5 = $3080
43. Ty's purchased a machine costing $11000 and paid $660 in sales tax. Shipping and installation cost $1500. The machine has a 3-year life after which it should have a book value of $3500 and a market value of $5000. What is the annual, straight-line deprecation, ignoring the half year convention?
$3220 Formula: Depreciation = ($11000 + $660 + $1500 - $3500) / 3 = $3220
19. McGinty's purchased a new machine for $318,000, paid $19,000 in sales tax, and $7,500 in deliver charges. The firm paid $3,400 to have the machine calibrated once it was set in place. The machine requires $5,600 of annual maintenance. What is the depreciable basis of the machine?
$347,900 Formula: Depreciable basis = $318,00 + 19,000 + $7,500 + $3,400 = $347,900
73. Assume the initial costs of a project, CF0, are $38000 and weighted average flotation cost, fA, is 6.7 percent. How is the flotation-adjusted CF0 computed?
$38000 / (1 - 0.067)
75. A firm has a target capital structure of 60 percent equity and 40 percent debt. The floation cost of equity is 13 percent while it is 9 percent for debt. The initial cost of a project is $468000. What is the flotation-adjusted cash flow for time zero?
$528217 Formula: fA = (0.60 x 0.13) + (0.4 x 0.09) = 0.114 Adjusted CF0 = $468000 / (1.0114) = $528.217
49. Values for the first year of a project are projected as: Sales = $1800, Depreciation = $300, Fixed costs = $450, Variable costs = $620, Tax rate = 34 percent. What is the OCF?
$583.80 Formula: OCF = ($1800 + $620 - $450 - $300)(1-0.34) + $300 = $583.80
67. An asset has an initial cost of $43000 and is classified as 3-year MACRS property. The MACRS percentages are 33.33, 44.45, 14.81, and 7.41 percent for years 1 through 4, respectively. What is the depreciation for year 3?
$6368.30 Formula: DepreciationYear3 = 0.1481 x $43000 = $6368.30
46. A firm purchased equipment at total cost of $287000, which was depreciated straight-line over seven years. After five years, the equipment was sold for $98900. What is the ATCF at a tax rate of 34 percent?
$93,154 Formula: Book Value = $287000 - (5/7 x $287000) = $82000; ATCF = $82000 + ($98900 - $82000)(1-0.34) = $93154
21. A new asset costs $28,000 including all sales taxes other installation costs. The asset is to be depreciated to an ending book value of $5000 over the asset's 5-year life. The asset is expected to be sold for $7800 at the end of the five years. How is the annual depreciation computed?
($28,000 - $5,000) / 5
8. A firm purchased a new machine costing $28,000 including sales tax. It also paid $2000 for delivery and installation. The machine has a life of 6 years and an expected ending book value of $5000. How the depreciation is computed using the straight-line method? Ignore the half year convention.
($28000 + $2000 - $5000) / 6
58. A machine costs $112000, has a 2-year life and annual after-tax net expenses of $31400. What is the EAC at rate of 14 percent?
($99,416.45) Formula: NPV = -$112,000 - $31400/1.14 - $31400/1.14^2 = $163705.14 N = 2 I = 14 PV = 163705.14 FV = 0 CPT PMT; PMT = ($99,416.45)
7. Which one of these computes the amount of annual depreciation using the straight-line method? Ignore the half-year convention.
(Depreciable basis - Ending book value) / Life of asset
29. A machine costing $79000 will replace an old machine and lower annual variable costs by $15500 over its 5-year life. The new machine will be depreciated using MACRS with rates of 33.33, 44.45, 14.81, and 7.41 percent for years 1 to 4, respectively. The old machine has a current book value of $39600 and depreciation of $13200. What is the incremental depreciation for year 3?
-$1,500 Formula: Incremental depreciation3 = ($79,000 x 0.1481) - $13,200 = $1,500.10
71. A new asset cost $47000, has a 3-year life, and annual after-tax net expenses of $3700. What is the EAC at a discount rate of 11 percent?
-$22,933.01 Formula: NPV = $47000 - $3700/1.11^2 - $3700/1.11^3 = -$56041.74 N = 3 I = 11 PV = 56041.74 FV = 0 CPT PMT; PMT = (22933.01)
15. A project has a 3-year life and requires equipment costing $34,000. The OCF is estimated at $16,000 annually. NWC of $3500 is required over the project's life. What cash flows occur at time zero? Select all that apply.
-$34,000 -$3,500
76. A firm has a target capital structure of 50 percent equity, 10 percent preferred, and 40 percent debt. Their respective flotation costs are 12 percent, 10 percent, and 7 percent. What is the weighted average flotation cost?
9.80 percent Formula: fA = (.5 x .12) + (.1 x .10) + (.4 x .07) = .0980
13. A project has a 3-year life and annual sales projections of $120,000, $160,000 and $190,000 for years 1 to 3, respectively. The project requires net working capital (NWC) equal to 5 percent of the next year's sales. How is this requirement handled in project analysis? Select all that apply.
A cash flow of [0.05 x ($160,000 - $120,000)] is recorded in year 1 A cash outflow of (0.05 x $120,000) is recorded at time zero A cash flow of (0.05 x $190,000) occurs in year 3
17. What is an incremental cash flow?
A cash flow that either increases or decreases when a new project is implemented
5. Which of these illustrates a complementary effect? Select all that apply.
A new product increases traffic flow thereby increasing the revenue generated by a firm's existing products. A new product increases the sales of the firm's existing products.
38. What is sunk cost?
A previously incurred cost than cannot be recovered.
26. Which of these are cash flows that apply to a replacement problem? Select all that apply
ATCF of an existing asset at its normal life-end Cost of new asset Depreciation lost if existing asset is sold
57. You are comparing Machine A with a 3-year life and an EAC of -$21407 and Machine B with a 4-year life and an EAC of -$22013, which machine, if either, should be accepted according to the EAC decision criteria?
Accept Machine A
62. The half-year convention is based on which of these assumptions?
All assets placed in service during a given period were placed in service at the mid-point of the period.
53. Which of these correctly apply to MACRS depreciation? Select all that apply
All of the MACRS percentages found in the IRS tables are applied to an asset's initial depreciable basis. MACRS uses DDB for 3 to 10-year property and then switches to SL when SL produces a higher depreciation value. MACRS tables are provided by the IRS
33. How is a complementary effect defined?
Any increase in the current level of sales, costs, or necessary assets of a firm's existing operations caused by a new project.
4. Which one of these represents an opportunity cost?
Assigning a current employee to a new project
32. Which of these are financing costs? Select all that apply
Bond Interest Stock Dividends
28. New equipment was purchased for a project at a total cost of $210000 and was depreciated straight-line over five years. The equipment was sold at the end of three years for $68000. How the ATCF is computed using a tax rate of 34 percent?
Book value = $210000 - (3/5 x $210000); ATCF = Book Value + ($68000 - Book value)(1-0.34)
30. How can a replacement problem be defined?
Buying a new asset which will be used in place of an existing asset that is still useable
52. A project has projected annual sales of $96000, $112000, and $136000 for years 1 to 3, respectively. The project requires net working capital (NWC) equal to 6 percent of the following year's sales. Which of these are correct cash flow for this project?
Cash outflow of $1440 in year 2 Formula: Year 2 cash outflow = 0.06 x ($136000 - $112000) = $1440
14. How is net working capital defined?
Current assets - Current liabilities
18. Which one of these is an example of the substitution effect?
Current employee costs are lowered due to the automation process implemented by a new project.
66. Which one of these is a feature of MACRS depreciation?
Depreciation commences with an accelerated method and later switches to a straight-line method.
72. What does accelerated depreciation indicate?
Depreciation in the first half of an asset's life is greater than half of the assets value.
22. How is operating cash flow (OCF) defined?
EBIT (1-tax rate) + depreciation
16. What is pro forma analysis?
Estimation of future project cash flows using only the relevant parts of the financial statement.
25. Which of these correctly define free cash flow? Select all that apply
FCF = [EBIT (1 - TAX RATE) + DEPRECIATION] - [CHANGE IN GROSS FIXED ASSETS + CHANGE IN NET OPERATING WORKING CAPITAL FCF = OCF - INVESTMENT IN OPERATING CAPITAL
35. Why are financing costs excluded from project cash flows?
Financing costs are included in the required return used to discount project cash flows.
34. How are the dividends paid on stock included in the analysis of a new project?
Financing costs, such as dividends, are considered in the component costs of capital when a project's WACC is calculated.
56. What is the second step of the EAC process?
Find the annuity payment that has the same present value as the sum of the present values of a project's cash flows.
61. What is the first step in the EAC process?
Find the sum of the present values of the cash flows for one iteration of each project.
12. How is the gain or loss on a sale of equipment determined?
Gain (loss) = Market Value - Book Value
37. Should opportunity costs be included in or excluded from project analysis? Why?
Included; the firm must forego using the resource in any other way, thereby incurring a cost.
70. Assume a firm has a tax rate of 34 percent which remains stable from year to year. Which type of depreciation should the firm use when computing its taxes?
MACRS with half-year convention
36. Which of these properties eligible for a Section 179 deduction? Select all that apply
Machinery purchased by a firm Most storage facilities built by a firm
59. An asset has a 7-year life and a sum of present values (NPV) of cash flows of -$46900. The discount rate is 12 percent. How is the equivalent annuity payment, or EAC, computed?
N = 4 I = 12 PV = 46900 FV = 0 CPT PMT
9. Which one of these is a correct formula for OCF, assuming there is no interest expense?
Net income + depreciation
31. What typifies a cost-cutting project?
No revenue is generated by the project.
42. Free cash flows for which one of the following are affected by estimation error?
Project free cash flows only
10. Manor's purchases some equipment in preparation for a new project. Which of these are time zero cash flows for that project? Select all that apply
Purchase price of the equipment Installation and initial testing costs Shipping costs to have the equipment delivered
6. What types of cost are included in an asset's depreciable basis? Select all that apply?
Sales tax and freight charges Purchase price of the asset Installation and testing costs
68. How do Section 179 deductions aid small businesses?
Section 179 allows eligible property, up to stated limits, to be fully expensed in the year of purchase.
11. What types of activities related to a project's fixed assets can create a cash flow for the final year of a project? Select all that apply.
Selling the project's equipment Scrapping equipment that has a positive book value but no market value Trading in the projects' equipment on new equipment for other projects.
39. Mike's Garage spent $1000 last week to repair its parking lot. No matter what Mike does, he cannot recoup this expense for his business. What type of cost is this?
Sunk cost
74. Why are a firm's target capital structure values used in computing the average flotation cost?
The firm will issue securities in these percentages over the long term.
2. How can you determine if a cash flow is incremental to a project?
The cash flow will disappear when the project ceases The cash flow changes only when a new project is implemented The cash flow occurs only if a new project is implemented
40. Why are sunk costs excluded from project analysis?
The costs have been incurred and cannot be recouped with or without the project.
65. What is the double-declining balance (DDB) method of depreciation?
The depreciation rate is 200 percent of the straight-line rate with the rate applied to the current book value.
1. In pro forma analysis, what determines whether or not an account on the balance sheet or income statement is relevant to a project?
The projected causes an account to change, then it is revelant.
64. Why would a firm prefer to use MACRS rather than straight-line depreciation for tax purposes?
The tax deduction from depreciation is greater in the early years.
44. How are taxes computed when a project's EBIT is negative?
The tax rate is multiplied by EBIT producing a tax credit.
3. What is an opportunity cost?
The value of the next best alternative use of a resource owned or employed by a firm.
50. A project requires $21000 of net working capital (NWC) over its 4-year life. Which one of these is correct?
There is no cash flow for NWC in the years 1 to 3.
20. How can straight-line depreciation be defined? Ignore the half-year convention.
Total amount to be depreciated spread over an asset's life.
54. Which of these conditions generally occur in situation where equivalent annual cost (EAC applies as the method of decision making? Select all that apply
Two assets can be used for the same purpose Both assets may produce the same level of sales.
60. Which of these is a key assumption in situation where EAC is used as the decision method?
Whenever the chosen asset wears out, it will be replaced with an identical asset
55. Which question is the basis for determining which one of a set of alternative assets with differing lives is preferable?
Which asset will produce the least negative EAC?
51. If you add all the cash flows related to net working capital (NWC) over a project's life, what sum must you obtain if your cash flows are correct?
Zero