Exam 12: Estimating Cash Flows on Capital Budgeting Projects

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?

You are considering the purchase of one of two machines used in your manufacturing plant. Machine A has a life of two years, costs $100 initially, and then $150 per year in maintenance costs. Machine B costs $200 initially, has a life of three years, and requires $120 in annual maintenance costs. Either machine must be replaced at the end of its life with an equivalent machine. Which is the better machine for the firm? The discount rate is 12 percent and the tax rate is zero.

Your firm needs a machine which costs $50,000, and requires $2,000 in maintenance for each year of its three-year life. After three years, this machine will be replaced. The machine falls into the MACRS three-year class life category. Assume a tax rate of 35 percent and a discount rate of 10 percent. What is the depreciation tax shield for this project in year 3?

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

An asset's cost plus the amounts you paid for items such as sales tax, freight charges, and installation and testing fees is referred to as the: ___________________.

A financial analyst calculated that the after-tax salvage value for a machine was $10,200. The current book value of the asset is $12,000 and the firm's tax rate is 30 percent. How much could the machine be sold for today?

Coke is planning on marketing a new drink called Very Berry Coke which is a mixture of raspberry and blackberry flavors blended to perfection and added to the highly secret Coca-Cola formula. This new product is expected to reduce the sales of their existing product, Cherry Coke, by $10 million per year. This is an example of a:

A financial analyst calculated that the after-tax salvage value for a machine was $10,200. The current book value of the asset is $25,000 and the firm's tax rate is 20 percent. How much could the machine be sold for today?

If a firm has already paid an expense or is obligated to pay one in the future, regardless of whether a particular project is undertaken, that expense is a:

Your company is considering a project that will cost $100. The project will generate after-tax cash flows of $37.50 per year for five years. The WACC is 10 percent and the firm's D/A ratio is 0.40. The flotation cost for equity is 3 percent, the flotation cost for debt is 2 percent, and your firm does not plan on issuing any preferred stock within its capital structure. If your firm follows the practice of incorporating flotation costs into the project's initial investment, what is the weighted-average flotation cost for the firm?

Your firm needs a computerized machine tool lathe that costs $50,000, requires $10,000 in installation, and another $12,000 in maintenance for each year of its three-year life. After three years, this machine will be replaced. The machine falls into the MACRS three-year class life category. Assume a tax rate of 30 percent and a discount rate of 12 percent. If the lathe can be sold for $7,000 at the end of year 3, what is the after-tax salvage value?

With regard to depreciation, the time value of money concept tells us that:

Your firm needs a computerized machine tool lathe that costs $50,000 and another $12,000 in maintenance for each year of its three-year life. After three years, this machine will be replaced. The machine falls into the MACRS three-year class life category. Assume a tax rate of 30 percent and a discount rate of 12 percent. If the lathe can be sold for $6,000 at the end of year 3, what is the after-tax salvage value?

Accelerated depreciation allows firms to:

You have been asked by the president of your company to evaluate the proposed acquisition of a new special-purpose truck for $50,000. The truck falls into the MACRS three-year class, and it will be sold after three years for $5,000. Use of the truck will require an increase in NWC (spare parts inventory) of $2,000. The truck will have no effect on revenues, but it is expected to save the firm $25,000 per year in before-tax operating costs, mainly labor. The firm's marginal tax rate is 40 percent. What will the operating cash flow for this project be during year 2?

You are evaluating a project for The Tiff-any golf club, guaranteed to correct that nasty slice. You estimate the sales price of The Tiff-any to be $375 per unit and sales volume to be 1,000 units in year 1; 1,400 units in year 2; and 1,325 units in year 3. The project has a three-year life. Variable costs amount to $225 per unit and fixed costs are $100,000 per year. The project requires an initial investment of $165,000 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 $35,000. 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 change in NWC occurs at the end of year 1?

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.

You have been asked by the president of your company to evaluate the proposed acquisition of a new special-purpose truck for $60,000. The truck falls into the MACRS three-year class, and it will be sold after three years for $14,000. Use of the truck will require an increase in NWC (spare parts inventory) of $3,000. The truck will have no effect on revenues, but it is expected to save the firm $20,000 per year in before-tax operating costs, mainly labor. The firm's marginal tax rate is 40 percent. What will the operating cash flow for this project be during year 3?

Your firm needs a machine which costs $20,000, and requires $1,000 in maintenance for each year of its three-year life. After three years, this machine will be replaced. The machine falls into the MACRS three-year class life category. Assume a tax rate of 40 percent and a discount rate of 9 percent. What is the depreciation tax shield for this project in year 3?

You have been asked by the president of your company to evaluate the proposed acquisition of a new special-purpose truck for $75,000. The truck falls into the MACRS three-year class, and it will be sold after three years for $13,000. Use of the truck will require an increase in NWC (spare parts inventory) of $5,000. The truck will have no effect on revenues, but it is expected to save the firm $20,000 per year in before-tax operating costs, mainly labor. The firm's marginal tax rate is 40 percent. What will the operating cash flow for this project be during year 3?