Problem 1. We have three possible projects and we can invest in only one project. Suppose our weighted cost of capital is 7% and each project requires an investment of $10,000. Using payback, NPV and IRR decide which project we should select and explain why.
|
Project
|
Year 1
|
Year 2
|
Year 3
|
Year 4
|
|
A
|
$9,000
|
42,000
|
$1,000
|
$0
|
|
B
|
4,000
|
4,000
|
4,000
|
12,000
|
|
C
|
0
|
10,000
|
4,000
|
11,000
|
Problem 2. For many years Futura Company has purchased the starters that it installs in its standard line of farm tractors. Due to a reduction in output, the company has idle capacity that could be used to produce the starters. The chief engineer has recommended against the move, however, pointing out that the cost to produce the starters would be greater than the current $8.40 per unit purchase price.
|
|
Per Unit
|
Total
|
|
Direct materials
|
$3.10
|
|
|
Direct labor
|
2.70
|
|
|
Supervision
|
1.50
|
$60,000
|
|
Depreciation
|
1.00
|
40,000
|
|
Variable manufacturing overhead
|
0.60
|
|
|
Rent
|
0.30
|
12,000
|
|
Total production cost
|
$9.20
|
|
A supervisor would have to be hired to oversee production of the starters. However, the company has sufficient idle tools and machinery that no new equipment would have to be purchased. The rent charge above is based on space utilized in the plant. The total rent on the plant is $80,000 per period. Depreciation is due to obsolescence rather than wear and tear. Prepare computations showing how much profits will increase or decrease as a result of making the starters.
Problem 3. Compare and contrast the direct and the indirect method of creating a statement of cash flows.