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CH9 HW 1) Global Enterprises has spent $134,000 on research developing a new type of shoe. This would be the only sunk cost 134000
2)Dilwater Furniture purchased a corner lot in Pittsburg five years ago at a cost of $890,000. The lot was recently appraised at $1,070,000. At the time of the purchase, the company spent $80,000 to grade the lot and another $120,000 to pave the lot for commuter parking. The company now wants to build a new retail store on the site. The building cost is estimated at $1.8 million. What amount should be used as the initial cash flow for this building project? CFO = $1,070,000+1,800,000= $2,870,000
3)Wexter’s purchased a warehouse for $499,000 six years ago. Four years ago, repairs costing $132,000 were made to the building. The annual property taxes are $41,000. The warehouse has a current book value of $268,000 and a market value of $529,000. The warehouse is debt-free. If the company decides to assign this warehouse to a new project, what value, if any, should be included in the initial cash flow of the project for this building? CF0 = $529,000, which is the opportunity cost
4)Farris Industrial purchased a machine five years ago at a cost of $164,900. The machine is being depreciated using the straight-line method over eight years. The tax rate is 35 percent and the discount rate is 14 percent. If the machine is sold today for $42,500, what will the aftertax salvage value be? Book value = $164,900 – 5 × ($164,900/8) = $61,837.50 Aftertax salvage value = $42,500 – .35 × ($42,500 – 61,837.50) = $49,268.1 6)
5)The Java House is considering a project that will produce sales of $47,500 and increase cash expenses by $22,500. If the project is implemented, taxes will increase by $7,600. The additional depreciation expense will be $10,100. An initial cash outlay of $7,300 is required for net working capital. What is the amount of the operating cash flow? OCF(revenue- cash expe – taxes) = $47,500 – 22,500 – 7,600 = $17,400
6)A project will increase sales by $60,000 and cash expenses by $41,000. The project will cost $40,000 and be depreciated using straight-line depreciation to a zero book value over the 4-year life of the project. The company has a marginal tax rate of 35 percent. What is the operating cash flow of the project? OCF = [($60,000 – 41,000) × (1 – .35)] = (1235) + [($40,000/4) × .35] =(3500) = $15,850
7) A project will increase annual sales by $144,000 and cash expenses by $95,000 for four years. The project has an initial cost of $102,000 for equipment that will be depreciated using MACRS depreciation. The applicable MACRS table values are .1429, .2449, .1749, and .1249 for Years 1 to 4, respectively. The company has a marginal tax rate of 34 percent. What is the depreciation tax shield for Year 3? Depreciation tax shield in Year 3 = $102,000 × .1749 × .34 = $6,065.53
8) Lefty’s just purchased some equipment that is classified as 7-year property for MACRS. The equipment cost $67,600. The MACRS table values are .1429, .2449, .1749, .1249, and .0893, for Years 1 to 5, respectively. What will the book value of this equipment be at the end of four years? Book value in Year 4 = $67,600 X (1 – .1429 – .2449 – .1749 – .1249) = (.3124 turn into % 31.24%) = $21,118.24
9) Kustom Cars purchased a fixed asset two years ago for $39,000 and sold it today for $19,000. The assets are classified as 5-year property for MACRS. The MACRS table values are .2000, .3200, .1920, .1152, .1152, and .0576 for Years 1 to 6, respectively. What is the net cash flow from the salvage value if the tax rate is 35 percent? Book value Year 2 = $39,000 × (1 – .2000 – .3200) = $18,720 Aftertax salvage value = $19,000 – .35($19,000 – 18,720) = $18,902
10)Sway’s Market is considering a project that will require the purchase of $1.4 million in new equipment. The equipment will be depreciated straight-line to zero over the 5-year life of the project. The firm expects to sell the equipment at the end of the project for 20 percent of its original cost. New net working capital equal to 10 percent of sales will be required to support the project. All of the new net working capital will be recouped at the end of the project. Annual sales are estimated at $750,000 with costs of $338,000. The required rate of return is 12 percent and the tax rate is 34 percent. What is the value of the depreciation tax shield in Year 2 of the project? Depreciation tax shield = ($1,400,000/5) × .34 = $95,200 11)The “recovery” of an additional investment in working capital is assumed to: occur at the end of the project’s life. 12) In what manner does depreciation expense affect investment projects? It reduces taxable income by the amount of the depreciation expense. 13)Keyser Mining is considering a project that will require the purchase of $980,000 in new equipment. The equipment will be depreciated straight-line to a zero book value over the 7-year life of the project. The equipment can be sold at 49,000 at the end of the project. Annual sales from this project are estimated at $420,000. Net working capital equal to 20 percent of sales will be required to support the project. All of the net working capital will be recouped. The required return is 16 percent and the tax rate is 35 percent. What is the amount of the aftertax salvage value of the equipment? Aftertax salvage value = 49,000 – (0.35)(49,000 – 0) = $31,850 15)A project is expected to create operating cash flows of $24,500 a year for three years. The initial cost of the fixed assets is $55,000. These assets will be worthless at the end of the project. In addition, the project requires $4,000 of net working capital which will be recouped when the project ends. What is the project’s net present value if the required rate of return is 10 percent? Make table OCF (0) (1)24,500 (2)24,500 (3)24,500 Changes in NWC (0) -4000 (3)4000 Capital spending (0) -55,000 ATSV worthless = 0 total of year 0= -59,000 1=24500 2=24500 3=28,500 Then use NPV formula(rate=10%, [24,500:24,500;28,500]+(-55,000) 16) same as 15 only difference you ass The net aftertax salvage value of $3,500 will be received at the end of the project. At the end year 3. 17)Gateway Communications is considering a project with an initial fixed asset cost of $1.4 million which will be depreciated straight-line to a zero book value over the 4-year life of the project. At the end of the project the equipment will be sold for an estimated $300,000. The project will not directly produce any sales but will reduce operating costs by $620,000 a year. The tax rate is 35 percent. The project will require $45,000 of net working capital which will be recouped when the project ends. Should this project be implemented if the firm requires a 12 percent rate of return? Why or why not? OCF=cost savings*(1-tax rate)+(depreciation*tax rate)◼ Straight line Depreciation= (initial cost-book value/ #of years) (620000)*(1-.35) + 45000*35% ◼ATSV=Salvage-tax rate x(salvage value-book value) (30000) – 35%*(300000-0) Make chart and use NPV formula *ATSV at end of year 4 and NWC always gets recuperated Initial cost=NCS