978-0132757089 Chapter 12 Part 3

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35) SpaceTech is considering a new project with the following projections for Year 2.

Year 2 Projections

EBIT $400,000

Interest Expense $20,000

Depreciation Expense $40,000

Tax Rate 40%

Net Working Capital Needs $200,000

If the projected net working capital needs for Year 1 was $150,000, calculate the free cash flow

for Year 2.

A) $130,000

B) $180,000

C) $230,000

D) $280,000

Topic: 12.2 Forecasting Project Cash Flows

Keywords: working capital

Principles: Principle 3: Cash Flows Are the Source of Value

36) In year 3 of project Gamma. sales were $3,000,0000, cost of goods sold $1,500,000, other

cash costs were $400,000, depreciation was $600,000 and interest expense was $250,000. The

company’s marginal tax rate is 35%. Compute operating cash flow for year 3 of project Gamma.

A) $925,000

B) $675,000

C) $500,000

D) $325,000

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

37) The Board of Directors of Waste Free Chemicals is considering the acquisition of a new

chemical processor. The processor is priced at $600,000 but would require $60,000 in

transportation costs and $40,000 for installation. The processor will have a useful life of 10

years. The project will require Waste Free to increase its investment in accounts receivable by

$80,000 and will also require an additional investment in inventory of $150,000. The firm’s

marginal tax rate is 40 percent. How much is the initial cash outlay of the processor?

A) $700,000

B) $850,000

C) $930,000

D) $1,040,000

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

38) Your company is considering replacing an old steel cutting machine with a new one. Two

months ago, you sent the company engineer to a training seminar demonstrating the new

machine’s operation and efficiency. The $2,500 cost for this training session has already been

paid. If the new machine is purchased, it would require $5,000 in installation and modification

costs to make it suitable for operation in your factory. The old machine originally cost $50,000

five years ago and has been depreciated by $7,000 per year for five years up to now. The new

machine will cost $75,000 before installation and modification. It will be depreciated by $5,000

40%. Compute the relevant initial outlay in this capital budgeting decision.

A) $72,500

B) $68,000

C) $70,500

D) $78,000

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

39) Which of the following cash flows are NOT considered in the calculation of the initial outlay

for a capital investment proposal?

A) Training expense

B) Working capital investments

C) Installation costs of an asset

D) Before-tax selling price of old machine

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

40) If Morgan Tool & Die Co. acquires a new turret lathe, the lathe will cost $80,000,

transportation $6,000, installation $7,500. Installing the new lathe will allow Morgan to reduce

its finished goods inventory by $10,000. For capital budgeting purposes, the initial investment

required for the new lathe is:

A) $83,500.

B) $87,500.

C) $93,500.

D) $103,500.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

41) A project under consideration by Bizet Co. will require the purchase of machinery for

$50,000 and additional inventory for $15,000? Accounts receivable will increase by $12,000 and

accounts payable by $14,000. Liability insurance will increase by $2,500 per year and utilities

expense by $1,500 per year. What is the investment in working capital required by this project?

A) $77,000

B) $41,000

C) $13,000

D) $4,000

Topic: 12.2 Forecasting Project Cash Flows

Keywords: working capital

Principles: Principle 3: Cash Flows Are the Source of Value

42) When an old asset is sold for exactly its depreciated value, the only taxable income is the

difference between the initial cost of the machine and the selling price.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

43) Because installment costs of a new asset are a current cash expense, they are excluded from

the initial outlay.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

44) The capital budgeting decision-making process involves measuring the expected incremental

cash flows of an investment proposal and evaluating the value of these cash flows relative to the

project’s cost.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

45) Working capital for a project includes investment in fixed assets.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

46) It is not necessary to consider depreciation in estimating cash flows for a new capital project.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

47) The initial outlay of an asset does not include installation costs.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

48) Working capital requirements are considered a cash flow even though they do not leave the

company.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

49) Additional cash needed to fill increased working capital requirements should be included in

the initial cost of a product when analyzing an investment.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

50) By examining cash flows, we are correctly able to analyze the timing of the benefits.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

51) Accounting profits represents free cash flows that are available for reinvestment.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

52) The hardest step in capital budgeting analysis is calculating the cash flows of a project.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

53) A marketing survey completed last year to determine a project’s feasibility would be included

as part of the project’s initial cash outflow.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

54) Expenses incurred to install an asset are part of the asset’s initial cash outflow.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

55) Sales captured from the firm’s competitors can be relevant to the capital–budgeting decision.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

56) Cash flows associated with a project’s termination generally include the salvage value of the

project plus or minus any taxable gains or losses associated with its sale.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

57) LaVigne Wineries is purchasing a new wine press. The equipment will cost $250,000.

Transportation and installation will cost another $35,000. Because of increased production,

inventories will increase by $15,000. The press will be depreciated using the straight line method

to a book value of $0.00 over its useful life of 7 years. Compute depreciation for each year of the

project.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: straight line depreciation

Principles: Principle 3: Cash Flows Are the Source of Value

58) Cape Cod Cranberry Products is evaluating the introduction of a new line of juice drinks

consisting of cranberry juice blended with sweeter juices such as apple or grape. In the first year

the product line is introduced, sales are forecasted at $2,000,000, Cost of Goods Sold at

$1,200,000, other cash expenses at $300,000, depreciation expense at $800,000. The company

has many other profitable product lines. It’s marginal tax rate is 35%. Compute operating cash

flow for the first year.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

59) Marguerite’s Florist is considering the purchase of a new delivery van. It will cost $25,000

plus another $3,000 to have it painted in the company’s characteristic floral motif. The van will

be depreciated over 5 years using MACRS percentages and a half year convention. Compute

depreciation for the second year in the life of the van.

Topic: 12.2 Forecasting Project Cash Flows

Keywords: incremental cash flow

Principles: Principle 3: Cash Flows Are the Source of Value

60) What is the advantage, if any, to using MACRS rather than straight line depreciation?

Topic: 12.2 Forecasting Project Cash Flows

Keywords: MACRS depreciation

Principles: Principle 3: Cash Flows Are the Source of Value

1) In 2010, Sunny Electronics expects to sell 100,000 3-D television sets for an average price of

10%, while inflation will increase both the sales price and the cost per unit by 3%. In nominal

dollars, expected gross profit for 2011 is:

A) $40 million.

B) $45.32 million.

C) $48.20 million.

D) $50 million.

Topic: 12.3 Inflation and Capital Budgeting

Keywords: operating cash flows

Principles: Principle 3: Cash Flows Are the Source of Value