QFA Quiz bank chapters 6&7

Gateway Communications is considering a project with an initial fixed assets cost of $1.50 million that will be depreciated straight-line to a zero book value over the 9-year life of the project. At the end of the project the equipment will be sold for an estimated $245,000. The project will not change sales but will reduce operating costs by $409,000 per year. The tax rate is 40 percent and the required return is 12.7 percent. The project will require $54,500 in net working capital, which will be recouped when the project ends. What is the project's NPV?

$133,641 Year 0 CF = −$1,500,000 − 54,500 Year 0 CF = −$1,554,500 OCF = $409,000(1 − .40) + .40($1,500,000/9) OCF = $312,067 Year 9 CF (w/o OCF) = $54,500 + 245,000(1 − .40) Year 9 CF (w/o OCF) = $201,500 NPV = −$1,554,500 + 312,067(PVIFA12.7%,9) + 201,500/1.1279 NPV = $133,641

Jones & Jones is considering a project with a life of 5 years, an initial cost of $120,000, and a discount rate of 12 percent. The firm expects to sell 2,100 units per year at a cash flow per unit of $20. The firm will have the option to abandon this project after three years at which time it could sell the project for $50,000. At what level of sales should the firm be willing to abandon this project at the end of the third year?

$50,000 = $20Q[(1 − 1/1.122)/.12] Q = 1,479 units

The accounting break-even production quantity for a project is 5,799 units. The fixed costs are $92,640, the depreciation is $36,210, and the sales price per unit is $48.29. What is the variable cost per unit?

5,799 = ($92,640 + 36,210)/($48.29 − VC) Variable cost per unit = $26.07

Power Manufacturing has equipment that it purchased 6 years ago for $1,900,000. The equipment was used for a project that was intended to last for 8 years and was being depreciated over the life of the project. However, due to low demand, the project is being shut down. The equipment was depreciated using the straight-line method and can be sold for $270,000 today. The company's tax rate is 35 percent. What is the aftertax salvage value of the equipment?

Annual depreciation = $1,900,000/8 Annual depreciation = $237,500 Book value = $1,900,000 − 6($237,500) Book value = $475,000 Tax refund (due) = ($475,000 − 270,000)(.35) Tax refund (due) = $71,750 Aftertax salvage value = $270,000 + 71,750 Aftertax salvage value = $341,750

Power Manufacturing has equipment that it purchased 4 years ago for $2,200,000. The equipment was used for a project that was intended to last for 6 years and was being depreciated over the life of the project. However, due to low demand, the project is being shut down. The equipment was depreciated using the straight-line method and can be sold for $330,000 today. The company's tax rate is 35 percent. What is the aftertax salvage value of the equipment?

Annual depreciation = $2,200,000/6 Annual depreciation = $366,667 Book value = $2,200,000 − 4($366,667) Book value = $733,333 Tax refund (due) = ($733,333 − 330,000)(.35) Tax refund (due) = $141,167 Aftertax salvage value = $330,000 + 141,167 Aftertax salvage value = $471,167

Sun Brite has a new pair of sunglasses it is evaluating. The company expects to sell 5,700 pairs of sunglasses at a price of $152 each and a variable cost of $104 each. The equipment necessary for the project will cost $300,000 and will be depreciated on a straight-line basis over the 9-year life of the project. Fixed costs are $180,000 per year and the tax rate is 35 percent. How sensitive is the operating cash flow to a $1 increase in variable costs per pairs of sunglasses?

Base OCF = [5,700($152 − 104) − 180,000](1 − .35) + .35($300,000/9) Base OCF = $72,507 New OCF = [5,700($152 − 105) − 180,000](1 − .35) + .35($300,000/9) Base OCF = $68,802 Change in OCF = ($72,507 − 68,802)/(104 − 105) Change in OCF = −$3,705

Sun Brite has a new pair of sunglasses it is evaluating. The company expects to sell 5,900 pairs of sunglasses at a price of $154 each and a variable cost of $106 each. The equipment necessary for the project will cost $310,000 and will be depreciated on a straight-line basis over the 6-year life of the project. Fixed costs are $200,000 per year and the tax rate is 34 percent. How sensitive is the operating cash flow to a $1 increase in variable costs per pairs of sunglasses?

Base OCF = [5,900($154 − 106) − 200,000](1 − .34) + .34($310,000/6) Base OCF = $72,479 New OCF = [5,900($154 − 107) − 200,000](1 − .34) + .34($310,000/6) Base OCF = $68,585 Change in OCF = ($72,479 − 68,585)/(106 − 107) Change in OCF = −$3,894

A 6-year project is expected to generate annual sales of 8,900 units at a price of $76 per unit and a variable cost of $47 per unit. The equipment necessary for the project will cost $317,000 and will be depreciated on a straight-line basis over the life of the project. Fixed costs are $190,000 per year and the tax rate is 34 percent. How sensitive is the operating cash flow to a $1 change in the per unit sales price?

Base OCF = [8,900($76 − 47) − 190,000](1 − .34) + .34($317,000/6) Base OCF = $62,909 New OCF = [8,900($77 − 47) − 190,000](1 − .34) + .34($317,000/6) Base OCF = $68,783 Change in OCF = ($62,909 − 68,783)/(76 − 77) Change in OCF = $5,874

Brummitt Corporation, is evaluating a new 4-year project. The equipment necessary for the project will cost $2,050,000 and can be sold for $283,000 at the end of the project. The asset is in the 5-year MACRS class. The depreciation percentage each year is 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company's tax rate is 35 percent. What is the aftertax salvage value of the equipment?

Book value = $2,050,000(.1152 + .0576) Book value = $354,240 Tax refund (due) = ($354,240 − 283,000)(.35) Tax refund (due) = $24,934 Aftertax salvage value = $283,000 + 24,934 Aftertax salvage value = $307,934

Pear Orchards is evaluating a new project that will require equipment of $261,000. The equipment will be depreciated on a 5-year MACRS schedule. The annual depreciation percentages are 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company plans to shut down the project after 4 years. At that time, the equipment could be sold for $74,900. However, the company plans to keep the equipment for a different project in another state. The tax rate is 40 percent. What aftertax salvage value should the company use when evaluating the current project?

Book value = $261,000 − 261,000(.2000 + .3200 + .1920 + .1152) Book value = $45,101 Tax refund (due) = ($45,101 − 74,900)(.40) Tax refund (due) = −$11,920 Aftertax salvage value = 74,900 − 11,920 Aftertax salvage value = $62,980

A company is evaluating a new 4-year project. The equipment necessary for the project will cost $3,250,000 and can be sold for $690,000 at the end of the project. The asset is in the 5-year MACRS class. The depreciation percentage each year is 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company's tax rate is 35 percent. What is the aftertax salvage value of the equipment?

Book value = $3,250,000(.1152 + .0576) Book value = $561,600 Tax refund (due) = ($561,600 − 690,000)(.35) Tax refund (due) = −$44,940 Aftertax salvage value = $690,000 − 44,940 Aftertax salvage value = $645,060

A company purchased an asset for $3,300,000 that will be used in a 3-year project. The asset is in the 3-year MACRS class. The depreciation percentage each year is 33.33 percent, 44.45 percent, and 14.81 percent, respectively. What is the book value of the equipment at the end of the project?

Book value = $3,300,000 − 3,300,000(.3333 + .4445 + .1481) Book value = $244,530

A company purchased an asset for $3,500,000 that will be used in a 3-year project. The asset is in the 3-year MACRS class. The depreciation percentage each year is 33.33 percent, 44.45 percent, and 14.81 percent, respectively. What is the book value of the equipment at the end of the project?

Book value = $3,500,000 − 3,500,000(.3333 + .4445 + .1481) Book value = $259,350

A company is evaluating a new 4-year project. The equipment necessary for the project will cost $3,800,000 and can be sold for $745,000 at the end of the project. The asset is in the 5-year MACRS class. The depreciation percentage each year is 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company's tax rate is 34 percent. What is the aftertax salvage value of the equipment?

Book value = $3,800,000(.1152 + .0576) Book value = $656,640 Tax refund (due) = ($656,640 − 745,000)(.34) Tax refund (due) = −$30,042 Aftertax salvage value = $745,000 − 30,042 Aftertax salvage value = $714,958

Hannigan Home Theater is expanding its product offerings which includes increasing the floor inventory by $150,000, increasing accounts receivable by $35,000, and increasing its debt to suppliers by $75,000. The company will also spend $200,000 for a building contractor to expand the size of the showroom. What is the amount of the project's initial cash flow?

CF0 = −$150,000 − 35,000 + 75,000 − 200,000 CF0 = −$310,000

Seeing Red has a new project that will require fixed assets of $887,000, which will be depreciated on a 5-year MACRS schedule. The annual depreciation percentages are 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company has a tax rate of 34 percent. What is the depreciation tax shield for Year 3?

Depreciation tax shield = .34($887,000(.1920)) Depreciation tax shield = $57,903

The Lumber Yard is considering adding a new product line that is expected to increase annual sales by $297,000 and expenses by $200,000. The project will require $109,000 in fixed assets that will be depreciated using the straight-line method to a zero book value over the 6-year life of the project. The company has a marginal tax rate of 35 percent. What is the depreciation tax shield?

Depreciation tax shield = .35($109,000/6) Depreciation tax shield = $6,358

The Quorum Company has a prospective 5-year project that requires initial fixed assets costing $2,600,000, annual fixed costs of $515,000, variable costs per unit of $18,000, a sales price per unit of $44,000, a discount rate of 20 percent, and a tax rate of 21 percent. What is the financial break-even point?

EAC = $2,600,000/{[1 − 1/1.205]/.20} EAC = $869,387 Depreciation = $2,600,000/5 Depreciation = $520,000 PV break-even point = [($869,387 + 515,000)(1 − .21) − $520,000(.21)]/[($44,000 − 18,000)(1 − .21)] PV break-even point = 57 units per year

Aspect Resources expects to sell 3,000 units, ± 15 percent, of a new product. The variable cost per unit is $8, ± 5 percent; annual fixed costs are $12,500, ± 5 percent; annual depreciation is $4,000; and the sale price is $18 per unit, ± 2 percent. What is the amount of the fixed cost per unit under the pessimistic scenario?

Fixed cost per unitPessimistic = [$12,500(1.05)]/[3,000(.85)] Fixed cost per unitPessimistic = $5.15

A project has a contribution margin of $15, projected fixed costs of $120,000, variable costs per unit of $12, annual depreciation of $61,000, and a projected financial break-even point of 13,601.20 units. The tax rate is 21 percent, the discount rate is 12 percent, and the project life is 3 years. What is the equivalent annual cost?

Initial investment = $61,000(3) Initial investment = $183,000 EAC = $183,000/[(1 − 1/1.123)/.12] EAC = $76,192

Bruno's Lunch Counter is expanding and expects operating cash flows of $26,100 a year for 6 years as a result. This expansion requires $91,600 in new fixed assets. These assets will be worthless at the end of the project. In addition, the project requires $6,400 of net working capital throughout the life of the project. What is the net present value of this expansion project at a required rate of return of 12 percent?

NPV = 0 = −$91,600 − 6,400 + 26,100(PVIFA12%,6) + 6,400/1.126 NPV = $12,550

A project is expected to create operating cash flows of $73,000 per year for eight years. The fixed assets required for the project cost $108,000. It will cost an estimated $60,000 after tax to dispose of the fixed assets at the end of the project. What is the project's net present value if the required rate of return is 12.5 percent?

NPV = −$108,000 + $73,000[(1 − 1/1.1258)/.125] − $60,000/1.1258 NPV = $225,005

Lakeside Winery is considering expanding its winemaking operations. The expansion will require new equipment costing $655,000 that would be depreciated on a straight-line basis to zero over the 4-year life of the project. The equipment will have a market value of $171,000 at the end of the project. The project requires $41,000 initially for net working capital, which will be recovered at the end of the project. The operating cash flow will be $179,800 a year. What is the net present value of this project if the relevant discount rate is 11 percent and the tax rate is 34 percent?

NPV = −$655,000 − 41,000 + $179,800(PVIFA11%,4) + [$41,000 + (1 − .34)($171,000)]/1.114 NPV = −$36,828

Lakeside Winery is considering expanding its winemaking operations. The expansion will require new equipment costing $663,000 that would be depreciated on a straight-line basis to zero over the 5-year life of the project. The equipment will have a market value of $175,000 at the end of the project. The project requires $45,000 initially for net working capital, which will be recovered at the end of the project. The operating cash flow will be $172,360 a year. What is the net present value of this project if the relevant discount rate is 13 percent and the tax rate is 35 percent?

NPV = −$663,000 − 45,000 + $172,360(PVIFA13%,5) + [$45,000 + (1 − .35)($175,000)]/1.135 NPV = −$15,607

Wilson's Antiques is considering a project with an initial cost today of $10,000. The project has a life of 2 years with cash inflows of $6,500 per year. Should the firm decide to wait one year to commence this project, the initial cost will increase by 5 percent, and the cash inflows will increase to $7,500 per year. What is the value of the option to wait at a discount rate of 10 percent?

NPV0 = −$10,000 + $6,500[(1 − 1/1.102)/.10] NPV0 = $1,280.99 NPV0 = {−$10,000(1.05) + $7,500[(1 − 1/1.102)/.10]}/1.10 NPV0 = $2,287.75 Value of option to wait = $2,287.75 − 1,280.99 Value of option to wait = $1,006.76

A project has been assigned a discount rate of 12 percent. If the project starts immediately, it will have an initial cost of $480 and cash inflows of $350 per year for three years. If the start is delayed one year, the initial cost will rise to $520 and the cash flows will increase to $385 per year for three years. What is the value of the option to wait?

NPV0 = −$480 + $350[(1 − 1/1.123)/.12] NPV0 = $360.64 NPV0 = {−$520 + $385[(1 − 1/1.123)/.12]}/1.12 NPV0 = $361.34 Value of option to wait = $361.34 − 360.64 Value of option to wait = $.70

Efron Supply is considering a project which will require additional inventory of $115,000, will decrease accounts payable by $12,000, and will increase accounts receivable by $22,000. What is the initial net working capital requirement for this project?

NWC requirement = $115,000 + 12,000 + 22,000 NWC requirement = $149,000

A project has these estimated values: sales quantity of 4,600 units ± 2 percent; variable cost per unit of $17, ± 3 percent; annual fixed costs of $46,900, ± 1 percent; annual depreciation of $17,300; and a sales price of $39 per unit, ± 10 percent. The company bases its sensitivity analysis on the expected scenario. What will be the operating cash flow for a sensitivity analysis based on a sales price of $35 per unit and a tax rate of 21 percent?

Net income = {[4,600($35 − 17)] − $46,900 − 17,300}(1 − .21) Net income = $14,694OCF = $14,694 + 17,300 OCF = $31,994

Bi-Lo Traders is considering a project that will produce sales of $31,000 and have costs of $18,500. Taxes will be $3,300 and the depreciation expense will be $1,750. An initial cash outlay of $1,500 is required for net working capital. What is the project's operating cash flow?

OCF = $31,000 − 18,500 − 3,300 OCF = $9,200

Bi-Lo Traders is considering a project that will produce sales of $33,300 and have costs of $19,700. Taxes will be $3,500 and the depreciation expense will be $1,900. An initial cash outlay of $1,600 is required for net working capital. What is the project's operating cash flow?

OCF = $33,300 − 19,700 − 3,500 OCF = $10,100

A project will reduce costs by $38,800 but increase depreciation by $18,500. What is the operating cash flow if the tax rate is 40 percent?

OCF = $38,800(1 − .40) + .40($18,500) OCF = $30,680

You have calculated the pro forma net income for a new project to be $46,020. The incremental taxes are $22,470 and incremental depreciation is $16,530. What is the operating cash flow?

OCF = $46,020 + 16,530 OCF = $62,550

You have calculated the pro forma net income for a new project to be $46,170. The incremental taxes are $22,820 and incremental depreciation is $16,880. What is the operating cash flow?

OCF = $46,170 + 16,880 OCF = $63,050

A cost-cutting project will decrease costs by $63,700 a year. The annual depreciation will be $13,950 and the tax rate is 35 percent. What is the operating cash flow for this project?

OCF = $63,700(1 − .35) + .35($13,950) OCF = $46,288

A project is expected to generate annual revenues of $128,100, with variable costs of $78,700, and fixed costs of $19,200. The annual depreciation is $4,500 and the tax rate is 40 percent. What is the annual operating cash flow?

OCF = ($128,100 − 78,700 − 19,200)(1 − .40) + .40($4,500) OCF = $19,920

A project has annual depreciation of $18,700, costs of $91,700, and sales of $133,500. The applicable tax rate is 35 percent. What is the operating cash flow?

OCF = ($133,500 − 91,700)(1 − .35) + .35($18,700) OCF = $33,715

A project has annual depreciation of $20,300, costs of $94,100, and sales of $137,500. The applicable tax rate is 40 percent. What is the operating cash flow?

OCF = ($137,500 − 94,100)(1 − .40) + .40($20,300) OCF = $34,160

A project has annual depreciation of $21,500, costs of $95,900, and sales of $140,500. The applicable tax rate is 40 percent. What is the operating cash flow?

OCF = ($140,500 − 95,900)(1 − .40) + .40($21,500) OCF = $35,360

Capable Systems is considering a project with a life of 4 years that will require $164,800 for fixed assets and $42,400 for net working capital. The fixed assets will be depreciated using the Year 2018 bonus depreciation method. At the end of the project, the fixed assets can be sold for $37,500 cash and the net working capital will return to its original level. The project is expected to generate annual sales of $195,000 and costs of $117,500. The tax rate is 24 percent and the required rate of return is 13 percent. What is the project's net present value?

OCF = ($195,000 − 117,500)(1 − .24) OCF = $58,900 Year 1 depreciation tax shield = $164,800(.24) Year 1 depreciation tax shield = $39,552 Aftertax salvage value = $37,500 − [($37,500 − 0)(.24)] Aftertax salvage value = $28,500 NPV = −$164,800 − 42,400 + $39,552/1.13 + $58,900[(1 − 1/1.134)/.13] + ($28,500 + 42,400)/1.134 NPV = $46,482.43

Bennett Company has a potential new project that is expected to generate annual revenues of $254,000, with variable costs of $140,400, and fixed costs of $58,600. To finance the new project, the company will need to issue new debt that will have an annual interest expense of $20,000. The annual depreciation is $23,400 and the tax rate is 34 percent. What is the annual operating cash flow?

OCF = ($254,000 − 140,400 − 58,600)(1 − .34) + .34($23,400) OCF = $44,256

Bennett Company has a potential new project that is expected to generate annual revenues of $262,100, with variable costs of $144,000, and fixed costs of $61,300. To finance the new project, the company will need to issue new debt that will have an annual interest expense of $24,500. The annual depreciation is $25,200 and the tax rate is 34 percent. What is the annual operating cash flow?

OCF = ($262,100 − 144,000 − 61,300)(1 − .34) + .34($25,200) OCF = $46,056

Cori's Dog House is considering the installation of a new computerized pressure cooker for hot dogs. The cooker will increase sales by $9,300 per year and will cut annual operating costs by $13,200. The system will cost $45,900 to purchase and install. This system is expected to have a 5-year life and will be depreciated to zero using straight-line depreciation and have no salvage value. The tax rate is 35 percent and the required return is 10.7 percent. What is the NPV of purchasing the pressure cooker?

OCF = ($9,300 + 13,200)(1 − .35) + .35($45,900/5) OCF = $17,838NPV = −$45,900 + 17,838(PVIFA10.7%,5) NPV = $20,528

Outdoor Sports is considering adding a putt putt golf course to its facility. The course would cost $181,000, would be depreciated on a straight-line basis over its 5-year life, and would have a zero salvage value. The sales would be $91,000 a year, with variable costs of $28,100 and fixed costs of $12,700. In addition, the firm anticipates an additional $20,900 in revenue from its existing facilities if the putt putt course is added. The project will require $3,300 of net working capital, which is recoverable at the end of the project. What is the net present value of this project at a discount rate of 12 percent and a tax rate of 35 percent?

OCF = ($91,000 + 20,900 − 28,100 − 12,700)(1 − .35) + .35($181,000/5) OCF = $58,885 NPV = −$181,000 − 3,300 + $58,885(PVIFA12%,5) + $3,300/1.125 NPV = $29,840

A 9-year project is expected to provide annual sales of $225,000 with costs of $98,000. The equipment necessary for the project will cost $365,000 and will be depreciated on a straight-line method over the life of the project. You feel that both sales and costs are accurate to +/-10 percent. The tax rate is 40 percent. What is the annual operating cash flow for the worst-case scenario?

OCF = [$225,000(.90) − 98,000(1.10)](1 − .40) + .40($365,000/9) OCF = $73,042

A project with a life of 8 years is expected to provide annual sales of $400,000 and costs of $285,000. The project will require an investment in equipment of $700,000, which will be depreciated on a straight-line method over the life of the project. You feel that both sales and costs are accurate to +/-15 percent. The tax rate is 34 percent. What is the annual operating cash flow for the best-case scenario?

OCF = [$400,000(1.15) − 285,000(.85)](1 − .34) + .34($700,000/8) OCF = $173,465

Rock Haven has a proposed project that will generate sales of 1,905 units annually at a selling price of $35 each. The fixed costs are $19,400 and the variable costs per unit are $11.15. The project requires $35,800 of fixed assets that will be depreciated on a straight-line basis to a zero book value over the 4-year life of the project. The salvage value of the fixed assets is $9,500 and the tax rate is 35 percent. What is the operating cash flow?

OCF = [1,905($35 − 11.15) − $19,400](1 − .35) + .35($35,800/4) OCF = $20,055

Burke's Corner currently sells blue jeans and T-shirts. Management is considering adding fleece tops to its inventory to provide a cooler weather option. The tops would sell for $45 each with expected sales of 4,700 tops annually. By adding the fleece tops, management feels the firm will sell an additional 325 pairs of jeans at $57 a pair and 460 fewer T-shirts at $18 each. The variable cost per unit is $28 on the jeans, $10 on the T-shirts, and $23 on the fleece tops. With the new item, the depreciation expense is $25,000 a year and the fixed costs are $80,000 annually. The tax rate is 35 percent. What is the project's operating cash flow?

OCF = [4,700($45 − 23) + 325($57 − 28) − 460($18 − 10) − 80,000](1 − .35) + .35($25,000) Cash flow = $27,694

Bad Company has a new 4-year project that will have annual sales of 8,300 units. The price per unit is $19.80 and the variable cost per unit is $7.55. The project will require fixed assets of $93,000, which will be depreciated on a 3-year MACRS schedule. The annual depreciation percentages are 33.33 percent, 44.45 percent, 14.81 percent, and 7.41 percent, respectively. Fixed costs are $33,000 per year and the tax rate is 40 percent. What is the operating cash flow for Year 3?

OCF = [8,300($19.80 − 7.55) − 33,000](1 − .40) + .40(.1481)($93,000) OCF = $46,714

The Boat Works currently produces boat sails and is considering expanding its operations to include awnings. The expansion would require the use of land the firm purchased three years ago at a cost of $197,000 that is currently valued at $209,500. The expansion could use some equipment that is currently sitting idle if $7,500 of modifications were made to it. The equipment originally cost $387,500 five years ago, has a current book value of $132,700, and a current market value of $139,000. Other capital purchases costing $520,000 will also be required. What is the value of the opportunity costs that should be included in the initial cash outflow for the expansion project?

Opportunity cost = $209,500 + 139,000 Opportunity cost = $348,500

You own a house that you rent for $1,625 per month. The maintenance expenses on the house average $305 per month. The house cost $240,000 when you purchased it 4 years ago. A recent appraisal on the house valued it at $262,000. If you sell the house you will incur $20,960 in real estate fees. The annual property taxes are $3,550. You are deciding whether to sell the house or convert it for your own use as a professional office. What value should you place on this house when analyzing the option of using it as a professional office?

Opportunity cost = $262,000 − 20,960 Opportunity cost = $241,040

A proposed 1-year project has a contribution margin of $5, fixed costs of $12,000, variable costs per unit of $12, depreciation of $30,000, an EAC of $41,185, and a tax rate of 21 percent. What is the financial break-even point in units?

PV break-even point = [$41,185 + $12,000(1 − .21) − $30,000(.21)]/[$5(1 − .21)] PV break-even point = 11,232 units

Bubbly Waters currently sells 350 Class A spas, 500 Class C spas, and 250 deluxe model spas each year. The firm is considering adding a mid-class spa and expects that if it does, it can sell 425 units per year. However, if the new spa is added, Class A sales are expected to decline to 250 units while the Class C sales are expected to increase to 525. The sales of the deluxe model will not be affected. Class A spas sell for an average of $12,900 each. Class C spas are priced at $6,500 and the deluxe models sell for $17,500 each. The new mid-range spa will sell for $8,500. What annual sales figure should you use in your analysis?

Sales = 425($8,500) + (250 − 350)($12,900) + (525 − 500)($6,500) Sales = $2,485,000

Shelton Company purchased a parcel of land six years ago for $863,500. At that time, the firm invested $135,000 in grading the site so that it would be usable. Since the firm wasn't ready to use the site itself at that time, it decided to lease the land for $49,000 a year. The company is now considering building a warehouse on the site as the rental lease is expiring. The current value of the land is $915,000. What value should be included in the initial cost of the warehouse project for the use of this land?

The opportunity cost of the building is what it could be sold for today, or $915,000

Shelton Company purchased a parcel of land six years ago for $877,500. At that time, the firm invested $149,000 in grading the site so that it would be usable. Since the firm wasn't ready to use the site itself at that time, it decided to lease the land for $56,000 a year. The company is now considering building a warehouse on the site as the rental lease is expiring. The current value of the land is $929,000. What value should be included in the initial cost of the warehouse project for the use of this land?

The opportunity cost of the building is what it could be sold for today, or $929,000

A project has estimated sales of 2,600 units at $15.40 per unit; variable costs per unit of $6.79, ± 3 percent; annual fixed costs of $17,500, ± 3 percent; and depreciation of $2,850 per year. The company bases its sensitivity analysis on the expected scenario. If a sensitivity analysis is conducted using a variable cost of $7, what will be the total annual variable costs?

Total variable cost = $7(2,600) Total variable cost = $18,200

Gateway Communications is considering a project with an initial fixed assets cost of $1.58 million that will be depreciated straight-line to a zero book value over the 9-year life of the project. At the end of the project the equipment will be sold for an estimated $237,000. The project will not change sales but will reduce operating costs by $393,000 per year. The tax rate is 34 percent and the required return is 11.2 percent. The project will require $50,500 in net working capital, which will be recouped when the project ends. What is the project's NPV?

Year 0 CF = −$1,580,000 − 50,500 Year 0 CF = −$1,630,500 OCF = $393,000(1 − .34) + .34($1,580,000/9) OCF = $319,069 Year 9 CF (w/o OCF) = $50,500 + 237,000(1 − .34) Year 9 CF (w/o OCF) = $206,920 NPV = −$1,630,500 + 319,069(PVIFA11.2%,9) + 206,920/1.1129 NPV = $202,140

Jasper Metals is considering installing a new molding machine which is expected to produce operating cash flows of $55,000 per year for 7 years. At the beginning of the project, inventory will decrease by $16,000, accounts receivables will increase by $21,000, and accounts payable will increase by $15,000. At the end of the project, net working capital will return to the level it was prior to undertaking the new project. The initial cost of the molding machine is $249,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating an aftertax cash flow of $48,000. What is the net present value of this project given a required return of 9.9 percent?

Year 0 CF = −$249,000 + 16,000 − 21,000 + 15,000 Year 0 CF = −$239,000 Year 7 CF (w/o OCF) = $48,000 − 16,000 + 21,000 − 15,000 Year 7 CF (w/o OCF) = $38,000 NPV = −$239,000 + 55,000(PVIFA9.9%,7) + 38,000/1.0997 NPV = $49,271

Jasper Metals is considering installing a new molding machine which is expected to produce operating cash flows of $69,000 per year for 8 years. At the beginning of the project, inventory will decrease by $27,200, accounts receivables will increase by $26,600, and accounts payable will increase by $19,200. At the end of the project, net working capital will return to the level it was prior to undertaking the new project. The initial cost of the molding machine is $291,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating an aftertax cash flow of $76,000. What is the net present value of this project given a required return of 11.4 percent?

Year 0 CF = −$291,000 + 27,200 − 26,600 + 19,200 Year 0 CF = −$271,200 Year 8 CF (w/o OCF) = $76,000 − 27,200 + 26,600 − 19,200 Year 8 CF (w/o OCF) = $56,200 NPV = −$271,200 + 69,000(PVIFA11.4%,8) + 56,200/1.1148 NPV = $102,569

Jasper Metals is considering installing a new molding machine which is expected to produce operating cash flows of $72,000 per year for 9 years. At the beginning of the project, inventory will decrease by $32,000, accounts receivables will increase by $29,000, and accounts payable will increase by $21,000. At the end of the project, net working capital will return to the level it was prior to undertaking the new project. The initial cost of the molding machine is $309,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating an aftertax cash flow of $88,000. What is the net present value of this project given a required return of 12.7 percent?

Year 0 CF = −$309,000 + 32,000 − 29,000 + 21,000 Year 0 CF = −$285,000 Year 9 CF (w/o OCF) = $88,000 − 32,000 + 29,000 − 21,000 Year 9 CF (w/o OCF) = $64,000 NPV = −$285,000 + 72,000(PVIFA12.7%,9) + 64,000/1.1279 NPV = $110,458

Jasper Metals is considering installing a new molding machine which is expected to produce operating cash flows of $74,000 per year for 9 years. At the beginning of the project, inventory will decrease by $35,200, accounts receivables will increase by $30,600, and accounts payable will increase by $22,200. At the end of the project, net working capital will return to the level it was prior to undertaking the new project. The initial cost of the molding machine is $321,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating an aftertax cash flow of $96,000. What is the net present value of this project given a required return of 12.4 percent?

Year 0 CF = −$321,000 + 35,200 − 30,600 + 22,200 Year 0 CF = −$294,200 Year 9 CF (w/o OCF) = $96,000 − 35,200 + 30,600 − 22,200 Year 9 CF (w/o OCF) = $69,200 NPV = −$294,200 + 74,000(PVIFA12.4%,9) + 69,200/1.1249 NPV = $118,333

McCanless Company recently purchased an asset for $2,100,000 that will be used in a 3-year project. The asset is in the 3-year MACRS class. The depreciation percentage each year is 33.33 percent, 44.45 percent, 14.81 percent, and 7.41 percent, respectively. What is the amount of depreciation in Year 2?

Year 2 depreciation = .4445($2,100,000) Year 2 depreciation = $933,450

McCanless Company recently purchased an asset for $2,350,000 that will be used in a 3-year project. The asset is in the 3-year MACRS class. The depreciation percentage each year is 33.33 percent, 44.45 percent, 14.81 percent, and 7.41 percent, respectively. What is the amount of depreciation in Year 2?

Year 2 depreciation = .4445($2,350,000) Year 2 depreciation = $1,044,575

McCanless Company recently purchased an asset for $2,850,000 that will be used in a 3-year project. The asset is in the 3-year MACRS class. The depreciation percentage each year is 33.33 percent, 44.45 percent, 14.81 percent, and 7.41 percent, respectively. What is the amount of depreciation in Year 2?

Year 2 depreciation = .4445($2,850,000) Year 2 depreciation = $1,266,825

At the ________ break-even point, a project's net present value equals exactly zero.

financial

At the ________, a project produces a rate of return equal to the required return.

financial break-even point

A(n) ________ is the most valuable investment forgone if an alternative investment is chosen.

opportunity cost

Duong Corporation has a new project with projected real cash flows of $12,200, $14,600, and $16,300 for Years 1 to 3, respectively. The nominal discount rate is 15.96 percent and the inflation rate is 4 percent. What is the net present value of the project if the initial cost is $25,000?

r = (1.1596/1.04) − 1 r = .115, or 11.5% NPV = −$25,000 + $12,200/1.115 + $14,600/1.1152 + $16,300/1.1153 NPV = $9,444.15

A ________ analysis evaluates the impact on net present value when only one input variable is changed.

sensitivity

Assume you spent $800 last week repairing your car. Now a new problem is occurring and you are trying to decide whether to fix the car or trade it in for a newer model. In analyzing the situation, the $800 repair expense is a(n) ________ cost.

sunk

For a tax-paying firm, the net present value of a project will increase when:

the operating cash flows increase.