Chapter 9 - McGrawHill Exercises
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1. Cash Flows. A new project will generate sales of $74 million, costs of $42 millic coming year. The firm’s tax rate is 35%. Calculate cash flows for the year using confirm that they are equal. ( LO2) 2. Cash Flows. Canyon Tours showed the following components of working capita Beginning of Year End o Accounts receivable $24.000 $22, Inventory 12,000 134 Accounts payable 14,500 16.: a. What was the change in net working capital during the year? b. If sales were $36,000 and costs were $24,000, what was cash flow for the ye:
on, and depreciation expense of $10 million in the all three methods discussed in the chapter and 1l last year: LO2) ar? Ignore taxes.
3. Cash Flows. Tubby Toys estimates that its new line of rubber ducks will generate and a depreciation expense of $1 million. If the tax rate is 40%, what is the firm’s answer using all three methods to calculate operating cash flow. ( LO2) 4. Cash Flows. We've emphasized that the firm should pay attention only to cash flc proposed projects. Depreciation is a noncash expense. Why then does it matter v declining balance CCA depreciation when we assess project NPV? (@ L03) 5. Proper Cash Flows. Quick Computing currently sells 10 million computer chips ¢ a new chip, and it forecasts annual sales of 12 million of these improved chips at chip will decrease and sales of the old chip are expected to fall to 3 million per y¢ and the new ones will cost $8 each. What is the proper cash flow to use to evalua new chip? ( LO1) 6. Calculating Net Income. The owner of a bicycle repair shop forecasts revenues of and rental costs for the shop are $35,000 a year. Depreciation on the repair tools for the shop based on these estimates. The tax rate is 35%. ( LO2) 7. Cash Flows. Calculate the operating cash flow for the repair shop in the (5 previc the chapter: (a) net income plus depreciation; (b) cash inflow/cash outflow analy Confirm that all three approaches result in the same value for cash flow. ( LOZ
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sales of $7 million, operating costs of $F million, 5 operating cash flow? Show that you get the same ows when assessing the net present value of vhether we assume straight-line depreciation or avery year at $20 per chip. It is about to introduce a price of $25 each. However, demand for the old ear. The old chip costs $6 each to manufacture, ite the present value of the introduction of the 7$160,000 a year. Variable costs will be $45,000, ; will be $10,000. Prepare an income statement sus problem using all three methods suggested in rsis; and (c) the depreciation tax shield approach. 2)
8. Cash Flows and Working Capital. A house-painting business had revenues of $16 depreciation expenses. However, the business reported the following changes in Beginning End Accounts receivable $1,200 $4,500 Accounts payable 600 200 Calculate net cash flow for the business for this period. 04) 9. Incremental Cash Flows. A corporation donates a valuable painting from its priv following are incremental cash flows associated with the donation? ( LO1) a. The price the firm paid for the painting b. The current market value of the painting ¢. The deduction from income that it declares for its charitable gift d. The reduction in taxes due to its declared tax deduction
,000 and expenses of $9,000. There were no various components of working capital: ate collection to an art museum. Which of the
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10. Operating Cash Flows. Laurel’s Lawn Care, Ltd., has a new mower line that can g production costs are $40,000 and the fixed costs of maintaining the lawn mower cost $1 million and is included in an asset class with a CCA rate of 5%. Calculate next 6 years if the firm’s tax bracket is 35%. Do the calculation assuming a. The half-year rule b. The accelerated investment incentive ( LO2)
renerate revenues of $120,000 per year. Direct factory are $15,000 a year. The factory originally the operating cash flows of the project for the
Intermediate 11. Operating Cash Flows. In January 2018, Talia’s Tutus bought some equipm depreciated in asset Class 46, which has a CCA rate of 30%. This firm’s ta a. Find the CCA amount each year for the next 3 years. b. If the equipment is sold after 3 years for $20,000, what will be the after 35%? Assume that Talia’s Tutus has other assets in Class 46. ¢. Now rework your calculations assuming that Talia’s Tutus has no other upon the sale of the equipment in year 3. 12. Proper Cash Flows. Conference Services Inc. has leased a large office builc the company needs: two of the building’s 8 stories are almost empty. A ma require using one of the empty floors. In calculating the net present value ¢ one-eighth of $4 million of building rental costs (that is, $.5 million) to th¢ one-eighth of the building’s capacity. ( LO1) a. Is this a reasonable procedure for the purposes of calculating NPV? b. Can you suggest a better way to assess the cost of the office space used
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1ent for a data network for $40,000 that will be x bracket is 35%. (@ LO2) ~tax proceeds on the sale if the firm’s tax bracket is assets in Class 46 and the asset class will be terminated ding for $4 million per year. The building is larger than inager wants to expand one of her projects, but this will of the proposed expansion, upper management allocates ¢ project expansion, reasoning that the project will use by the project?
13. Cash Flows and Working Capital. A firm had net income last year of $1.2 mil its total cash flow was $1.2 million. What happened to net working capital du 14. Cash Flows and Working Capital. The only capital investment required for a s year were $10,000, and inventory increased from $4,000 to $5,000. What was fl 15. Cash Flows and Working Capital. A firm’s balance sheets for year-ends 2017 a to investment in net working capital during 2018? All items are in millions of December 31, 2017 Decem Accounts receivable 32 Inventories 25 Accounts payable 12 16. Salvage Value. Quick Computing (from [’ problem 5) installed its previous g 3 years ago. Some of that older equipment will become unnecessary when the The obsolete equipment, which originally cost $40 million, has been deprecia but it can now be sold for $18 million. The firm’s tax rate is 35%. What is the L02)
lion. Its depreciation expenses were $.5 million, and iring the year? ( LO4) small project is investment in inventory. Profits this LO4) ind 2018 contain the following data. What happened “dollars. (@ LO4) 5 the cash flow from the project? ( 1ber 31, 2018 35 30 25 eneration of computer chip manufacturing equipment e company goes into production of its new product. ited straight-line over an assumed tax life of 5 years, after-tax cash flow from the sale of the equipment? (
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17. Salvage Value. Your firm purchased machinery for $10 million in January 2018. CCA rate of 25%. The project will end after 5 years of purchase. If the equipme the project and your firm’s tax rate is 35%, what is the after-tax cash flow from t has no other assets in the class, and that the asset class will be terminated upon fl 18. CCA, Depreciation, and Project Value. Bottoms Up Diaper Service is considerit February 2018. It can purchase the washer for $6,000 and sell its old washer fo save $1,500 a year in expenses. If the old washer is retained, it will also last for The washers fall into an asset class with a CCA rate of 30%. Bottoms Up owns class. The opportunity cost of capital is 15%, and the firm’s tax rate is 40%. (@ a. If the salvage value of the new washer is expected to be zero at the end of its in years 0 to 6? b. What is the project NPV? ¢. What will the NPV and IRR be if the firm uses straight-line depreciation wit 19. Equivalent Annual Cost. What is the equivalent annual cost of the washer in the depreciation? (@ Lo2)
. The machinery falls into an asset class that has a :nt can be sold for $4 million at the completion of the sale of the machinery? Assume that the firm 1 the sale of the machinery. ( LO2) ng the purchase of a new industrial washer in r $2,000. The new washer will last for 6 years and 6 more years after which it will have to be junked. other washing machines that also fall into this asset 'LO3) i 6-year life, what are the cash flows of the project h a 6-year tax life? : previous problem if the firm uses straight-line
20. Cash Flows and NPV. Assume it is January 2018 and Johnny’s Lunches is consic grill will cost $20,000 and will be depreciated in an asset class that carries a CC. 3 years for $5,000. The grill will have no effect on revenues but will save Johnny assets in this asset class. The tax rate is 35%. (@ LO2) a. What are the operating cash flows in years 1 to 3? b. What are total cash flows in years 1 to 3? c¢. If the discount rate is 12%, should the grill be purchased?
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lering purchasing a new, energy-efficient grill. The A rate of 30%. It will be sold for scrap metal after ’s $10,000 in energy expenses. The firm has other
f/ 21. Project Evaluation. Revenues generated by a new fad product are forecast as Year 3 4 Thereafter Expenses are expected to be 40% of revenues, and working capital required i following year. The product requires an immediate investment of $50,000 in a. What is the initial investment in the product? Remember working capital b. If the plant and equipment are in an asset class that has a CCA rate of 2! cash flows in each year? c. If the opportunity cost of capital is 10%, what is the project NPV?
follows: Revenues $40,000 30,000 20,000 10,000 0 n each year is expected to be 20% of revenues in the plant and equipment. ( LO2) 5%, and the firm’s tax rate is 40%, what are the project
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22. Buy Versus Lease. You can buy a car for $25,000 and sell it in 5 years for $5,00 year. The discount rate is 10% per year. (@ LO2) a. Which option do you prefer? b. What is the maximum amount you should be willing to pay to lease rather ti 23. Project Evaluation. Kinky Copies may buy a high-volume copier. The machine ¢ over 5 years to a salvage value of $20,000. Kinky anticipates that the machine ¢ save $20,000 a year in labour costs but will require an increase in working capit marginal tax rate is 35%. Ignore the CCA system and assume that the straight-li will suffice for tax purposes. Should Kinky buy the machine? The discount rate
10, or you can lease the car for 5 years for $5,000 a han buy the car? Page 314 costs $100,000 and will be depreciated straight-line :an be sold in 5 years for $30,000. The machine will tal, mainly paper supplies, of $10,000. The firm’s ine depreciation method adopted by Kinky Copies is 8%. (@ L02)
24. Project Evaluation. Fireplaces Etc. is about to launch a new range of wood stove wood stoves is $65. The firm expects to sell the wood stoves over the next 5 year plant and equipment of $25,000 acquired in February 2018. Assume that the in’ of 15%. At the end of 5 years, the plant and equipment will have a zero salvage v other assets in this asset class. Sales projections for the wood stoves are as folloy Year Unit Sales 1 300 2 350 3 400 4 500 5 500 The net working capital requirement (including the initial working capital need¢ year’s sales. The firm’s tax rate is 35%. Using a discount rate of 15%, calculate tl
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s, priced at $110 per unit. The unit cost of the rs. The venture will require an initial investment in vestment will be in an asset class with a CCA rate value, but Fireplaces Etc. will continue to have ws: =d in year 0) is expected to be 20% of the following he net present value of the project. ( LO4)
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25. 26. Project Evaluation. Blooper Industries must replace its magnoosium purificatior cheap purification system for $10 million. The system will last 5 years. Do-It-Rig $12 million; it will last for 8 years. Both systems entail $1 million in operating ¢ has a CCA rate of 30%; neither will have any salvage value at the end of its life. 12%. Which system should Blooper install? ( LO2) Project Evaluation. The following table presents sales forecasts for Golden Gelt the giftware is $25. Year Unit S 1 220 2 30,0 3 14.0 4 5.0 Thereafter It is expected that net working capital will amount to 25% of sales in the followi (year 0) investment in working capital of .25 x 22,000 x $40 = $220,000. Plant : business will require an additional investment of $200,000. This investment will of 25%. We will assume that the firm has other assets in this asset class. After 4 book value of zero. The firm’s tax rate is 35%. The discount rate is 20%. What is
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a system. Quick & Dirty Systems sells a relatively sht sells a sturdier but more expensive system for ‘osts; both will be depreciated in an asset class that The firm’s tax rate is 35%, and the discount rate is Giftware. The unit price is $40. The unit cost of ng year. For example, the store will need an initial and equipment necessary to establish the giftware | be depreciated in an asset class with a CCA rate years, the equipment will have an economic and 5 the net present value of the project? (
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27. Project Evaluation. Ilana Industries, Inc., needs a new lathe. It can buy a new hig $35,000 to run, will save the firm $125,000 in labour costs, and will be useful fo will be in an asset class with a CCA rate of 25%. Ilana has many other assets in t year life with a salvage value of $100,000. The actual market value of the lathe at rate is 10% and the corporate tax rate is 35%. What is the NPV of buying the ney 28. Internet. Go to the Canada Revenue Agency site at (5 www.cra-arc.ge.ca/tx/bsn to get to relevant documents describing the Capital Cost Allowance system. On¢ keywords “Capital Cost Allowance.” Read the prescribed rules and regulations t classes are there? What are the minimum and maximum eligible CCA rates? Mc you identify the asset classes that involve straight-line computation? Why do you for these asset classes? ( LO3) 29. Internet. Go to the “Investor Relations” section of the Rogers Communications reports find the net capital expenditures, capital expenditures less sales of plant years. What were the ratios of net capital expenditure to sales for the past 3 year expenditures relative to total assets? Did the company make an investment or dit vears? ({5 LO4)
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sh-speed lathe for $1 million. The lathe will cost r 10 years. Suppose that for tax purposes, the lathe this asset class. The lathe is expected to have a 10- t that time will also be $100,000. The discount w lathe? ( LO2) ss/tpes/slprtnr/rprtng/cptl/clsss-eng.html and try > quick way is to do a search on the site on the hat govern capital cost allowance. How many asset »st asset classes have declining balance rates. Can 1 think the rate structure is not declining balance site, at (5 www.rogers.com. From the annual and equipment, and total sales for the past 3 s? What were the sales and net capital sinvestment in working capital in each of the 3
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30. Project Evaluation. The efficiency gains resulting from a just-in-time inventory level of inventories permanently by $250,000. What is the most the firm shoul & Loa) 31. Project Evaluation. You are considering investing in a new line of entertainme life of 5 years. You anticipate some immediate startup costs amounting to $25 new plant and equipment. Assume, for tax purposes, that the machinery and ¢ economic life. Also assume that the initial startup costs are fully tax-deductibl In the first year of operation you are anticipating sales revenues of $60,000. T! until year 4; however, the revenues are expected to decline by 5% in the fifth y subsequent years, these are expected to grow in proportion to sales revenues. ~ Also, at the end of the project’s economic life, your plant and equipment will | 12%. Assuming that you will be able to expense the project’s startup costs, a. Calculate its payback period, discounted payback period, internal rate of r¢ LO2) b. Using the net present value and internal rate of return criteria, do you thin Explain your answer. ( LO2) ¢. Now, assume that for CCA purposes, your plant and equipment belong to : Recompute the project’s net present value, assuming that you have other as after the economic life of this project is over. Work out your calculations s¢ $10,000 salvage value, at the end of the project’s economic life. Would you Explain your answer. ( LO3)
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management system will allow a firm to reduce its Id be willing to pay for installing the system? ( nt products. The project has an estimated economic 1,000. In addition, you will be investing $100,000 in :quipment will be depreciated straight-line over its e. hese revenues are expected to grow by 5% per year ear. First-year operating costs will be $10,000; in The tax rate applicable to your business will be 34%. not have any salvage value. Your cost of capital is sturn, net present value, and profitability index. ( k it is worthwhile for you to pursue this project? asset Class 39. which carries a CCA rate of 25%. ssets in asset Class 39 that will be continued even :parately assuming (1) a zero salvage value and (2) a pursue the project under these new conditions?
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32. 33. Project Evaluation. Better Mousetraps has developed a new trap. It can go into | of $6 million. The equipment will be depreciated straight-line over 5 yearsto a v for $500,000. The firm believes that working capital at each date must be maint The firm estimates production costs equal to $1.50 per trap and believes that th given in the following table. The project will come to an end in 5 years, when th firm’s tax bracket is 35%, and the required rate of return on the project is 12%. \ Year: 0 1 2 3 4 57 Sales (millions of traps) 0 .5 .6 1.0 1.0 .6 Working Capital Management. Return to the previous problem. Suppose the firt half by using better inventory control systems. By how much will this increase p
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sroduction for an initial investment in equipment ralue of zero, but in fact it can be sold after 5 years ained at a level of 10% of next year’s forecast sales. e traps can be sold for $4 each. Sales forecasts are e trap becomes technologically obsolete. The What is project NPV? (& LO2) Thereafter 0 m can cut its requirements for working capital in roject NPV? (&) LO4)
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34. Project Evaluation. PC Shopping Network may upgrade its modem pool. It last on equipment with an assumed life of 5 years and an assumed salvage value of § line depreciation. The old equipment can be sold today for $80 million. A new 1 million. This will have a 3-year life, and will be depreciated to zero using straigh the firm to increase sales by $25 million per year and decrease operating costs t new equipment will be worthless. Assume the firm’s tax rate is 35% and the disc a. What is the net cash flow at time 0 if the old equipment is replaced? (@ LO. b. What are the incremental cash flows in years 1, 2, and 3? ( LO2) ¢. What are the NPV and IRR of the replacement project? ( LO2) d. Now ignore straight-line depreciation and assume that both new and old equ 30%. PC Shopping Network has other assets in this asset class. What is the I assume that the new equipment will have a salvage value of $30 million at th
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upgraded 2 years ago, when it spent $115 million 315 million for tax purposes. The firm uses straight- modem pool can be installed today for $150 tline depreciation. The new equipment will enable »y $10 million per year. At the end of 3 years, the sount rate for projects of this sort is 12%. 2) ipment are in an asset class with a CCA rate of NPV of the replacement project? For this part, e end of 3 years. ( LO3)
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35. Integrative. You are exploring the possibility of starting a project involving prodi You had approached a marketing consultant to conduct market research and do recommendations of the study are positive, and you have decided to begin work be 6 years. (& LO1, & L02, @ L03, & LO4) The initial investment in the project is expected to be as follows: « Land: $150,000 « Buildings: $350,000 « Manufacturing equipment: $250,000 « Net working capital: $40,000 For CCA computation, the buildings belong to asset Class 1 and the manufactu CCA rates of 4% and 25%, respectively. At the end of the project’s economic life land for $450,000 (the value of the land is expected to remain unchanged). The have a salvage value of only $125,000. Net working capital requirements for eacl previous year. Your business will be taxed at 35%. In the first year, you expect to sell 30,000 units of the gourmet pickles in bottled expected to increase by 4%. You have decided to price the pickles at $8.50 for ez price in subsequent years to keep up with inflation, which you expect to be abou costs are expected to be $16,000 in the first year and are expected to grow in prc costs are estimated at $40,000 per year. On the basis of your estimates of the cost of financing the project, you have deci the project’s cash flows should be 12%. Conduct an NPV analysis to determine v is correct.
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uction of an assortment of spicy curried pickles. a l-year feasibility study for $25,000. The on the project. You expect the life of the project to ring equipment is in Class 39, with applicable 3, you expect to be able to sell the buildings and manufacturing equipment is, however, expected to h year are expected to increase by 10% from the | jars. In each subsequent year, unit sales are ach jar in the first year. You intend to adjust the it 1.5% per year over the life of the project. Variable yportion to sales in each subsequent year. Fixed ided that the appropriate discount rate to evaluate whether your decision to go ahead with the project
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36. Project Evaluation. Virtual Printing Inc. has devised a new technology based on products. The firm intends to spend $160,000 in new plant and equipment and ! house the project. The project has an estimated economic life of eight years. Ass equipment and building will be depreciated straight-line over its economic life. In the first year of operation, Virtual Printing expects to generate sales revenues the same level until year 3, but they are subsequently expected to grow by 10% a expected to decline by 5% per year. First-year operating costs will be $15,000; in proportion to sales revenues. The tax rate applicable to Virtual Printing’s busine economic life, the plant and equipment will not have any salvage value. The exp: leased, or rented to another business entity without compromising the firm’s exi is 12%. a. Should Virtual Printing’s finance manager recommend accepting the project when they are worth more than their cost? ( LO2) b. Explain your answer to part (a) above. What technique did you use in that ar ¢. By what time frame can Virtual Printing expect to recover its initial investme money and (2) taking into account the time value of money? Name the techr are the benefits and drawbacks to these techniques? ( LO2) d. What is the IRR for this project? ( LO2) e. Now, assume that for CCA purposes the plant and equipment actually belc with applicable CCA rates of 25% and 4%, respectively. Recompute the prc Printing has other assets in both asset classes that will be continued even a out your calculations assuming a zero salvage value for the building expans equipment, at the end of the project’s economic life. Would you pursue the answer. ( LO3)
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which it plans to launch a new line of print media $40,000 in expanding its building facilities to sume, for tax purposes, that the machinery and of $60,000. These revenues are expected to stay at nnually until year 6, after which the revenues are subsequent years, these are expected to grow in :ss will be 34%. Also, at the end of the project’s anded building facilities also cannot be sold, sting operations. Virtual Printing’s cost of capital if the firm’s objective is to accept projects only 1swer? ( LO2) nt in the project: (1) ignoring the time value of 1iques you have used for your computation. What g to Class 39 and the buildings belong to Class 1, jject’s net present value, assuming that Virtual fter the economic life of this project is over. Work ion and a $10,000 salvage value for the plant and project under these new conditions? Explain your
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