18) The Sisyphean Corporation is considering investing in a new cane manufacturing
machine that has an estimated life of three years. The cost of the machine is $30,000 and
the machine will be depreciated straight line over its three-year life to a residual value of
$0.
The cane manufacturing machine will result in sales of 2000 canes in year 1. Sales are
estimated to grow by 10% each year through year 3. The price per cane that Sisyphean will
charge its customers is $17 each and is to remain constant. The canes have a cost per unit
to manufacture of $8 each.
Installation of the machine and the resulting increase in manufacturing capacity will
require an increase in various net working capital accounts. It is estimated that the
Sisyphean Corporation needs to hold 2% of its annual sales in cash, 5% of its annual sales
in accounts receivable, 10% of its annual sales in inventory, and 6% of its annual sales in
accounts payable. The irm is in the 35% tax bracket and has a cost of capital of 9%.
The required net working capital in the second year for the Sisyphean Corporation’s
project is closest to ________.
A) $4114
B) $3740
C) -$3366
D) $8602
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
21
19) The Sisyphean Corporation is considering investing in a new cane manufacturing
machine that has an estimated life of three years. The cost of the machine is $30,000 and
the machine will be depreciated straight line over its three-year life to a residual value of
$0.
The cane manufacturing machine will result in sales of 2400 canes in year 1. Sales are
estimated to grow by 9% each year through year 3. The price per cane that Sisyphean will
charge its customers is $15 each and is to remain constant. The canes have a cost per unit
to manufacture of $8 each.
Installation of the machine and the resulting increase in manufacturing capacity will
require an increase in various net working capital accounts. It is estimated that the
Sisyphean Corporation needs to hold 3% of its annual sales in cash, 5% of its annual sales
in accounts receivable, 9% of its annual sales in inventory, and 6% of its annual sales in
accounts payable. The irm is in the 35% tax bracket and has a cost of capital of 8%.
The change in net working capital from year 1 to year 2 is closest to ________.
A) a decrease of $356
B) an increase of $356
C) an increase of $389
D) a decrease of $389
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
22
20) Bubba Ho-Tep Company reported net income of $290 million for the most recent iscal
year. The irm had depreciation expenses of $100 million and capital expenditures of $150
million. Although it had no interest expense, the irm did have an increase in net working
capital of $30 million. What is Bubba Ho-Tep’s free cash low?
A) $10 million
B) $210 million
C) $270 million
D) $570 million
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
21) Temporary Housing Services Incorporated (THSI) is considering a project that involves
setting up a temporary housing facility in an area recently damaged by a hurricane. THSI
will lease space in this facility to various agencies and groups providing relief services to
the area. THSI estimates that this project will initially cost $6 million to set up and will
generate $22 million in revenues during its irst and only year in operation (paid in one
year). Operating expenses are expected to total $11 million during this year and
depreciation expense will be another $2 million. THSI will require no working capital for
this investment. THSI’s marginal tax rate is 35%.
Ignoring the original investment of $5 million, what is THSI’s free cash low for the irst
and only year of operation?
A) $6.00 million
B) $3.85 million
C) $9.81 million
D) $7.85 million
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
23
22) Temporary Housing Services Incorporated (THSI) is considering a project that involves
setting up a temporary housing facility in an area recently damaged by a hurricane. THSI
will lease space in this facility to various agencies and groups providing relief services to
the area. THSI estimates that this project will initially cost $5 million to set up and will
generate $21 million in revenues during its irst and only year in operation (paid in one
year). Operating expenses are expected to total $8 million during this year and
depreciation expense will be another $2 million. THSI will require no working capital for
this investment. THSI’s marginal tax rate is 35%
Assume that THSI’s cost of capital for this project is 15%. The net present value (NPV) of
this temporary housing project is closest to ________.
A) $2,956,522
B) -$9.15
C) $5,913,044
D) -$2,956,522
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
23) Shepard Industries is evaluating a proposal to expand its current distribution facilities.
Management has projected the project will produce the following cash lows for the irst
two years (in millions).
Year 1 2
Revenues 1050 1425
Operating expense 375 550
Depreciation 230 280
Increase in working capital 50 80
Capital expenditures 270 320
Marginal corporate tax rate 30% 30%
The depreciation tax shield for Shepard Industries project in year 1 is closest to ________.
A) $84 million
B) $104 million
C) $83 million
D) $69 million
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
24
24) Shepard Industries is evaluating a proposal to expand its current distribution facilities.
Management has projected that the project will produce the following cash lows for the
irst two years (in millions of dollars).
Year 1 2
Revenues 1000 1325
Operating expense 400 550
Depreciation 230 300
Increase in working capital 40 80
Capital expenditures 250 300
Marginal corporate tax rate 30% 30%
The depreciation tax shield for Shepard Industries project in year 2 is closest to ________.
A) $90 million
B) $69 million
C) $135 million
D) $108 million
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
25
25) Epiphany Industries is considering a new capital budgeting project that will last for
three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based
on extensive research, it has prepared the following incremental cash low projects:
Year 0 1 2 3
Sales (Revenues) 100,000 100,000 100,000
– Cost of Goods Sold (50% of Sales) 50,000 50,000 50,000
– Depreciation 30,000 30,000 30,000
= EBIT 20,000 20,000 20,000
– Taxes (35%) 7,000 7,000 7,000
= unlevered net income 13,000 13,000 13,000
+ Depreciation 30,000 30,000 30,000
+/(-) increase/(decrease) in
working capital 5,000 5,000 5,000
– capital expenditures -90,000
The free cash low for the irst year of Epiphany’s project is closest to ________.
A) $45,600
B) $28,500
C) $38,000
D) $53,200
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
26
26) Epiphany Industries is considering a new capital budgeting project that will last for
three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based
on extensive research, it has prepared the following incremental cash low projects:
Year 0 1 2 3
Sales (Revenues) $150,000 $150,000 $150,000
– Cost of Goods Sold (50% of Sales) 75,000 75,000 75,000
– Depreciation 20,000 20,000 20,000
= EBIT 55,000 55,000 55,000
– Taxes (35%) 19,250 19,250 19,250
= unlevered net income 35,750 35,750 35,750
+ Depreciation 20,000 20,000 20,000
+/(-) increase/(decrease) in
working capital 5,000 5,000 -10,000
– capital expenditures -$90,000
The free cash low for the last year of Epiphany’s project is closest to ________.
A) $65,750
B) $59,175
C) $49,313
D) $52,600
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
27
27) Epiphany Industries is considering a new capital budgeting project that will last for
three years. Epiphany plans on using a cost of capital of 12% to evaluate this project. Based
on extensive research, it has prepared the following incremental cash low projects:
Year 0 1 2 3
Sales (Revenues) 150,000 150,000 150,000
– Cost of Goods Sold (50% of Sales) 75,000 75,000 75,000
– Depreciation 25,000 25,000 25,000
= EBIT 50,000 50,000 50,000
– Taxes (35%) 17,500 17,500 17,500
= unlevered net income 32,500 32,500 32,500
+ Depreciation 25,000 25,000 25,000
+(-) increase/(decrease) in working
capital 5,000 5,000 -10,000
– capital expenditures -90,000
The net present value (NPV) for Epiphany’s Project is closest to ________.
A) $23,387
B) $140,319
C) $46,773
D) $93,546
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
28
28) Luther Industries has outstanding tax loss carryforwards of $72 million from losses
over the past four years. If Luther earns $15 million per year in pre-tax income from now
on, in how many years will Luther irst pay taxes?
A) 7 years
B) 2 years
C) 4 years
D) 5 years
AACSB Objective: Analytic Skills
Author: JN
Question Status: Revised
29) A irm is considering changing their credit terms. It is estimated that this change would
result in sales increasing by $1,600,000. This in turn would cause inventory to increase by
$125,000, accounts receivable to increase by $100,000, and accounts payable to increase
by $90,000. What is the irm’s expected change in net working capital?
A) $1,735,000
B) $315,000
C) $225,000
D) $135,000
AACSB Objective: Analytic Skills
Author: WC
Question Status: Revised
29
30) A irm is considering investing in a new machine that will cost $400,000 and will be
depreciated straight-line over ive years. If the irm’s marginal tax rate is 39%, what is the
annual depreciation tax shield of purchasing the machine?
A) $80,000
B) $31,200
C) $28,080
D) $156,000
AACSB Objective: Analytic Skills
Author: WC
Question Status: Revised
31) A irm is considering a new project that will generate cash revenue of $1,300,000 and
cash expenses of $700,000 per year for ive years. The equipment necessary for the project
will cost $300,000 and will be depreciated straight line over four years. What is the
expected free cash low in the second year of the project if the irm’s marginal tax rate is
35%?
A) $374,625
B) $341,250
C) $416,250
D) $499,500
AACSB Objective: Analytic Skills
Author: WC
Question Status: Revised
32) If a business owner is using the extra space at home for his business, does it imply a
zero opportunity cost for the space?
AACSB Objective: Relective Thinking Skills
Author: SS
Question Status: Revised
30