1. Quick Computing currently sells 12 million computer chips each year at a price of $21 per
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| Quick Computing currently sells 12 million computer chips each year at a price of $21 per chip. |
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| It is about to introduce a new chip, and it forecasts annual sales of 14 million of these improved chips at a price of $26 each. |
| However, demand for the old chip will decrease, and sales of the old chip are expected to fall to 4 million per year. |
| The old chip costs $6 each to manufacture, and the new ones will cost $9 each. |
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| What is the proper cash flow to use to evaluate the present value of the introduction of the new chip? |
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| 2.) |
Tubby Toys estimates that its new line of rubber ducks will generate sales of $6.60 million, operating costs of $3.60 million, and a depreciation expense of $.60 million. |
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Assume the tax rate is 30%. |
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Calculate the operating cash flow for the year by using all three methods: |
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Are the above answers equal? |
| 3.) |
The owner of a bicycle repair shop forecasts revenues of $196,000 a year. |
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Variable costs will be $59,000, and rental costs for the shop are $39,000 a year. |
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Depreciation on the repair tools will be $19,000. |
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Prepare an income statement for the shop based on these estimates. |
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The tax rate is 35%. |
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| 4.) |
Laurel’s Lawn Care, Ltd., has a new mower line that can generate revenues of $126,000 per year. |
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Direct production costs are $42,000, and the fixed costs of maintaining the lawn mower factory are $16,000 a year. |
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The factory originally cost $1.05 million and is being depreciated for tax purposes over 25 years using straight-line depreciation. |
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Calculate the operating cash flows of the project if the firm’s tax bracket is 30%. |
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| 5.) |
Gluon Inc. is considering the purchase of a new high pressure glueball. |
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It can purchase the glueball for $110,000 and sell its old low-pressure glueball, which is fully depreciated, for $20,000. |
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The new equipment has a 10-year useful life and will save $24,000 a year in expenses. |
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The opportunity cost of capital is 10%, and the firm’s tax rate is 40%. |
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What is the equivalent annual savings from the purchase if Gluon uses straight-line depreciation? |
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Assume the new machine will have no salvage value. |
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| 6.) |
Johnny’s Lunches is considering purchasing a new, energy-efficient grill. |
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The grill will cost $50,000 and will be depreciated according to the 3-year MACRS schedule. |
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It will be sold for scrap metal after 3 years for $12,500. |
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The grill will have no effect on revenues but will save Johnny’s $25,000 in energy expenses. |
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The tax rate is 40%. Use the MACRS depreciation schedule. |
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What are the operating cash flows in each year? |
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What are the total cash flows in each year? |
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If the discount rate is 11%, should the grill be purchased? |
| 7.) |
Revenues generated by a new fad product are forecast as follows: |
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What is the initial invesment in the product? Remember working capital. |
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If the plant and equipment are depreciated over 4 years to a salvage value of zero using straight-line depreciation, and the firm’s tax rate is 30%, what are the project cash flows in each year? |
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Assume the plant and equipment are worthless at the end of 4 years. |
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If the opportunity cost of capital is 12%, what is the project's NPV? |
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What is the project IRR? |
8.
| Kinky Copies may buy a high-volume copier. |
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| The machine costs $140,000 and will be depreciated straight-line over 5 years to a salvage value of $24,000. |
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| Kinky anticipates that the machine actually can be sold in 5 years for $33,000. |
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| The machine will save $24,000 a year in labor costs but will require an increase in working capital, mainly paper supplies, of $12,000. |
| The firm’s marginal tax rate is 35%, and the discount rate is 7%. |
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| (Assume the net working capital will be recovered at the end of Year 5.) |
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| 9.) |
Quick Computing installed its previous generation of computer chip manufacturing equipment 3 years ago. |
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Some of that older equipment will become unnecessary when the company goes into production of its new product. |
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The obsolete equipment, which originally cost $42.5 million, has been depreciated straight-line over an assumed tax life of 5 years, but it can be sold now for $18.5 million. |
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The firm’s tax rate is 30%. What is the after-tax cash flow from the sale of the equipment? |
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| 10.) |
Bottoms Up Diaper Service is considering the purchase of a new industrial washer. |
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It can purchase the washer for $7,800 and sell its old washer for $1,600. |
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The new washer will last for 6 years and save $2,300 a year in expenses. |
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The opportunity cost of capital is 17%, and the firm’s tax rate is 40%. |
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| a. |
If the firm uses straight-line depreciation to an assumed salvage value of zero over a 6-year life, what is the annual operating cash flow of the project in years 1 to 6? |
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The new washer will in fact have zero salvage value after 6 years, and the old washer is fully depreciated. |
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| c. |
What is NPV if the firm uses MACRS depreciation with a 5-year tax lifef? |
| 11.) |
Canyon Tours showed the following components of working capital last year: |
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What was the change in net working capital during the year? |
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If sales were $37,500 and costs were $25,500, what was cash flow for the year? Ignore taxes. |
| 12.) |
A house painting business had revenues of $16,300 and expenses of $19,300 last summer. |
13.
| Better Mousetraps has developed a new trap. It can go into production for an initial investment in equipment of $6.3 million. |
| The equipment will be depreciated straight line over 6 years to a value of zero, but in fact it can be sold after 6 years for $682,000. |
| The firm believes that working capital at each date must be maintained at a level of 10% of next year’s forecast sales. |
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| The firm estimates production costs equal to $1.30 per trap and believes that the traps can be sold for $5 each. |
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| Sales forecasts are given in the following table. |
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| The project will come to an end in 6 years., when the trap becomes technologically obsolete. |
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| The firm’s tax bracket is 35%, and the required rate of return on the project is 8%. |
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| Use the MACRS depreciation schedule. |
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| 14.) |
The efficiency gains resulting from a just-in-time inventory management system will allows a firm to reduce its level of inventories permanently by $503,000. |
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What is the most the firm should be willing to pay for installing the system? |
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| 15.) |
Better Mousetraps has developed a new trap. It can go into production for an initial investment in equipment of $5.7 million. |
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The equipment will be depreciated straight line over 6 years to a value of zero, but in fact it can be sold after 6 years for $638,000. |
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The firm believes that working capital at each date must be maintained at a level of 10% of next year’s forecast sales. |
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The firm estimates production costs equal to $1.70 per trap and believes that the traps can be sold for $8 each. |
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Sales forecasts are given in the following table. The project will come to an end in 6 years., when the trap becomes technologically obsolete. |
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The firm’s tax bracket is 35%, and the required rate of return on the project is 10%. Use the MACRS depreciation schedule. |
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