Finance Chapter 12 3 You Are Evaluating Project For Your Company You Estimate The Sales

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48. You are evaluating a project for your company. You estimate the sales price to be $25 per

unit and sales volume to be 4,000 units in year 1; 7,000 units in year 2; and 1,000 units in year 3.

The project has a three-year life. Variable costs amount to $10 per unit and fixed costs are

$50,000 per year. The project requires an initial investment of $10,000 in assets that will be

depreciated straight-line to zero over the three-year project life. The actual market value of these

assets at the end of year 3 is expected to be $1,000. NWC requirements at the beginning of each

year will be approximately 10 percent of the projected sales during the coming year. The tax rate

is 34 percent and the required return on the project is 10 percent. What is the operating cash

flow for the project in year 2?

49. You are evaluating a product for your company. You estimate the sales price of product to

be $300 per unit and sales volume to be 8,000 units in year 1; 10,000 units in year 2; and 2,000

units in year 3. The project has a three-year life. Variable costs amount to $125 per unit and fixed

costs are $150,000 per year. The project requires an initial investment of $225,000 in assets that

will be depreciated straight-line to zero over the three-year project life. The actual market value

of these assets at the end of year 3 is expected to be $25,000. NWC requirements at the

beginning of each year will be approximately 20 percent of the projected sales during the coming

year. The tax rate is 34 percent and the required return on the project is 14 percent. What will the

year 2 free cash flow for this project be?

50. You are evaluating a product for your company. You estimate the sales price of product to

be $375 per unit and sales volume to be 500 units in year 1; 1,000 units in year 2; and 200 units in

year 3. The project has a three-year life. Variable costs amount to $200 per unit and fixed costs

are $100,000 per year. The project requires an initial investment of $175,000 in assets that will be

depreciated straight-line to zero over the three-year project life. The actual market value of these

assets at the end of year 3 is expected to be $20,000. NWC requirements at the beginning of

each year will be approximately 25 percent of the projected sales during the coming year. The tax

rate is 34 percent and the required return on the project is 10 percent. What will the year 2 free

cash flow for this project be?

51. You are evaluating a product for your company. You estimate the sales price of product to

be $200 per unit and sales volume to be 2,000 units in year 1; 5,000 units in year 2; and 1,000

units in year 3. The project has a three-year life. Variable costs amount to $75 per unit and fixed

costs are $200,000 per year. The project requires an initial investment of $360,000 in assets that

will be depreciated straight-line to zero over the three-year project life. The actual market value

of these assets at the end of year 3 is expected to be $40,000. NWC requirements at the

beginning of each year will be approximately 20 percent of the projected sales during the coming

year. The tax rate is 34 percent and the required return on the project is 13 percent. What will the

year 2 free cash flow for this project be?

52. You are evaluating a product for your company. You estimate the sales price of product to

be $50 per unit and sales volume to be 50,000 units in year 1; 75,000 units in year 2; and 10,000

units in year 3. The project has a three-year life. Variable costs amount to $15 per unit and fixed

costs are $100,000 per year. The project requires an initial investment of $275,000 in assets that

will be depreciated straight-line to zero over the three-year project life. The actual market value

of these assets at the end of year 3 is expected to be $25,000. NWC requirements at the

beginning of each year will be approximately 10 percent of the projected sales during the coming

year. The tax rate is 34 percent and the required return on the project is 9 percent. What will the

year 2 free cash flow for this project be?

53. Your company is considering the purchase of a new machine. The original cost of the old

machine was $100,000; it is now five years old, and it has a current market value of $40,000. The

old machine is being depreciated over a 10-year life toward a zero estimated salvage value on a

straight-line basis, resulting in a current book value of $50,000 and an annual depreciation

expense of $10,000. The old machine can be used for six more years but has no market value

after its depreciable life is over. Management is contemplating the purchase of a new machine

whose cost is $80,000 and whose estimated salvage value is zero. Expected before-tax cash

savings from the new machine are $13,000 a year over its full MACRS depreciable life.

Depreciation is computed using MACRS over a five-year life, and the cost of capital is 10 percent.

Assume a 40 percent tax rate. What will the year 1 operating cash flow for this project be?

54. Your company is considering the purchase of a new machine. The original cost of the old

machine was $75,000; it is now five years old, and it has a current market value of $35,000. The

old machine is being depreciated over a 10-year life toward a zero estimated salvage value on a

straight-line basis, resulting in a current book value of $37,500 and an annual depreciation

expense of $7,500. The old machine can be used for six more years but has no market value after

its depreciable life is over. Management is contemplating the purchase of a new machine whose

cost is $80,000 and whose estimated salvage value is zero. Expected before-tax cash savings

from the new machine are $15,000 a year over its full MACRS depreciable life. Depreciation is

computed using MACRS over a five-year life, and the cost of capital is 15 percent. Assume a 40

percent tax rate. What will the year 1 operating cash flow for this project be?

55. Your company is considering the purchase of a new machine. The original cost of the old

machine was $25,000; it is now five years old, and it has a current market value of $10,000. The

old machine is being depreciated over a 10-year life toward a zero estimated salvage value on a

straight-line basis, resulting in a current book value of $12,500 and an annual depreciation

expense of $2,500. The old machine can be used for six more years but has no market value after

its depreciable life is over. Management is contemplating the purchase of a new machine whose

cost is $20,000 and whose estimated salvage value is zero. Expected before-tax cash savings

from the new machine are $3,500 a year over its full MACRS depreciable life. Depreciation is

computed using MACRS over a five-year life, and the cost of capital is 13 percent. Assume a 40

percent tax rate. What will the year 1 operating cash flow for this project be?

56. Your company is considering the purchase of a new machine. The original cost of the old

machine was $75,000; it is now five years old, and it has a current market value of $20,000. The

old machine is being depreciated over a 10-year life toward a zero estimated salvage value on a

straight-line basis, resulting in a current book value of $37,500 and an annual depreciation

expense of $7,500. The old machine can be used for six more years but has no market value after

its depreciable life is over. Management is contemplating the purchase of a new machine whose

cost is $60,000 and whose estimated salvage value is zero. Expected before-tax cash savings

from the new machine are $10,000 a year over its full MACRS depreciable life. Depreciation is

computed using MACRS over a five-year life, and the cost of capital is 9 percent. Assume a 40

percent tax rate. What will the year 1 operating cash flow for this project be?

57. Suppose you sell a fixed asset for $99,000 when its book value is $129,000. If your

company’s marginal tax rate is 39 percent, what will be the effect on cash flows of this sale (i.e.,

what will be the after-tax cash flow of this sale)?

58. Suppose you sell a fixed asset for $112,000 when its book value is $112,000. If your

company’s marginal tax rate is 39 percent, what will be the effect on cash flows of this sale (i.e.,

what will be the after-tax cash flow of this sale)?

59. Your company is considering a new project that will require $100,000 of new equipment

at the start of the project. The equipment will have a depreciable life of 10 years and will be

depreciated to a book value of $25,000 using straight-line depreciation. The cost of capital is 11

percent, and the firm’s tax rate is 34 percent. Estimate the present value of the tax benefits from

depreciation.

60. Your company is considering a new project that will require $250,000 of new equipment

at the start of the project. The equipment will have a depreciable life of eight years and will be

depreciated to a book value of $10,000 using straight-line depreciation. The cost of capital is 12

percent, and the firm’s tax rate is 34 percent. Estimate the present value of the tax benefits from

depreciation.

61. Your company is considering a new project that will require $100,000 of new equipment

at the start of the project. The equipment will have a depreciable life of 10 years and will be

depreciated to a book value of $5,000 using straight-line depreciation. The cost of capital is 14

percent, and the firm’s tax rate is 30 percent. Estimate the present value of the tax benefits from

depreciation.

62. You are trying to pick the least expensive car for your new delivery service. You have two

choices: the Scion xA, which will cost $15,000 to purchase and which will have OCF of -$1,600

annually throughout the vehicle’s expected life of four years as a delivery vehicle; and the Toyota

Prius, which will cost $27,000 to purchase and which will have OCF of -$750 annually throughout

that vehicle’s expected six-year life. Both cars will be worthless at the end of their life. If you

intend to replace whichever type of car you choose with the same thing when its life runs out,

again and again out into the foreseeable future, and if your business has a cost of capital of 10

percent, what is the EAC of the most expensive car?

63. You are evaluating two different cookie-baking ovens. The Pillsbury 707 costs $25,000,

has a six-year life, and has an annual OCF (after tax) of -$5,000 per year. The Keebler

CookieMunster costs $40,000, has a seven-year life, and has an annual OCF (after tax) of -$500

per year. If your discount rate is 10 percent, what is each machine’s EAC?

64. KADS, Inc., has spent $400,000 on research to develop a new computer game. The firm is

planning to spend $250,000 on a machine to produce the new game. Shipping and installation

costs of the machine will be capitalized and depreciated; they total $50,000. The machine has an

expected life of three years, a $75,000 estimated resale value, and falls under the MACRS seven–

year class life. Revenue from the new game is expected to be $600,000 per year, with costs of

$250,000 per year. The firm has a tax rate of 35 percent, an opportunity cost of capital of 15

percent, and it expects net working capital to increase by $100,000 at the beginning of the

project. What will the year 0 free cash flow for this project be?

65. KADS, Inc., has spent $400,000 on research to develop a new computer game. The firm is

planning to spend $150,000 on a machine to produce the new game. Shipping and installation

costs of the machine will be capitalized and depreciated; they total $50,000. The machine has an

expected life of three years, a $75,000 estimated resale value, and falls under the MACRS seven–

year class life. Revenue from the new game is expected to be $600,000 per year, with costs of

$250,000 per year. The firm has a tax rate of 35 percent, an opportunity cost of capital of 15

percent, and it expects net working capital to increase by $100,000 at the beginning of the

project. What will the year 0 free cash flow for this project be?

66. KADS, Inc., has spent $400,000 on research to develop a new computer game. The firm is

planning to spend $250,000 on a machine to produce the new game. Shipping and installation

costs of the machine will be capitalized and depreciated; they total $50,000. The machine has an

expected life of three years, a $75,000 estimated resale value, and falls under the MACRS seven–

year class life. Revenue from the new game is expected to be $500,000 per year, with costs of

$200,000 per year. The firm has a tax rate of 35 percent, an opportunity cost of capital of 15

percent, and it expects net working capital to increase by $100,000 at the beginning of the

project. What will the year 1 free cash flow for this project be?

67. KADS, Inc., has spent $400,000 on research to develop a new computer game. The firm is

planning to spend $50,000 on a machine to produce the new game. Shipping and installation

costs of the machine will be capitalized and depreciated; they total $50,000. The machine has an

expected life of three years, a $75,000 estimated resale value, and falls under the MACRS five–

year class life. Revenue from the new game is expected to be $500,000 per year, with costs of

$200,000 per year. The firm has a tax rate of 35 percent, an opportunity cost of capital of 15

percent, and it expects net working capital to increase by $100,000 at the beginning of the

project. What will the year 2 free cash flow for this project be?