Question 1
Suppose we are thinking about replacing an old computer with a new one. The old one cost us $1,270,000; the new one will cost $1 530 000 The new machine will be depreciated straight-line to zero over its five-year life. It will probably be worth about $270,000 after five years.
The old computer is being depreciated at a rate of $254,000 per year. It will be completely written off in three years. If we don't replace it now, we will have to replace it in two years. We can sell it now for $390,000; in two years, it will probably be worth $117,000. The new machine will save us $287,000 per year in operating costs. The tax rate is 40 percent, and the discount rate is 11 percent.
a. Calculate the EAC for the old computer and the new computer. (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
EAC
New computer Old computer
b. What is the NPV of the decision to replace the computer now? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
Question 2
Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.52 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life. The project is estimated to generate $2,020,000 in annual sales, with costs of $715,000.
The tax rate is 30 percent and the required return is 16 percent. The project requires an initial investment in net working capital of $240,000, and the fixed asset will have a market value of $290,000 at the end of the project.
What is the projects Year 0 net cash flow? Year 1? Year 2? Year 3?
Years Cash Flow
Year 0
Year 1 $ 1,165,500
Year 2 $ 1,165,500
Year 3
What is the NPV? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
Question 3
You are the financial analyst for a tennis racket manufacturer. The company is considering using a graphitelike material in its tennis rackets. The company has estimated the information in the following table about the market for a racket with the new material.
The company expects to sell the racket for six years. The equipment required for the project has no salvage value and will be depreciated on a straight-line basis. The required return for projects of this type is 13 percent, and the company has a 40 percent tax rate.
|
|
Pessimistic
|
Expected
|
Optimistic
|
|
Market size
|
123,000
|
138,000
|
163,000
|
|
Market share
|
20%
|
23%
|
25%
|
|
Selling price
|
$ 142
|
$ 147
|
$ 153
|
|
Variable costs per unit
|
96
|
91
|
90
|
|
Fixed costs per year
|
$ 957,000
|
$ 912,000
|
$ 882,000
|
|
Initial investment
|
$1,860,000
|
$1,758,000
|
$1,656,000
|
Calculate the NPV for each case for this project. Assume a negative taxable income generates a tax credit. (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
Pessimistic Expected
Optimistic
Question 4
We are examining a new project. We expect to sell 6,300 units per year at $57 net cash flow apiece for the next 10 years. In other words, the annual operating cash flow is projected to be $57 x 6,300 = $359,100. The relevant discount rate is 12 percent, and the initial investment required is $1,740,000.
After the first year, the project can be dismantled and sold for $1,610,000. Suppose you think it is likely that expected sales will be revised upward to 9,300 units if the first year is a success and revised downward to 4,900 units if the first year is not a success.
Suppose the scale of the project can be doubled in one year in the sense that twice as many units can be produced and sold. Naturally, expansion would be desirable only if the project were a success. This implies that if the project is a success, projected sales after expansion will be 18,600. Note that abandonment is an option if the project is a failure.
If success and failure are equally likely, what is the NPV of the project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
What is the value of the option to expand? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)