3. Analysis of an expansion project Companies invest in expansion projects with the expectation of increasing the earnings of its business. Consider the case of McFann Co.: McFann Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs: Year 1 Year 2 Year 3 Year 4 Unit sales 4,800 5,100 5,000 5,120 Sales price $22.33 $23.45 $23.85 $24.45 Variable cost per unit $9.45 $10.85 $11.95 $12.00 Fixed operating costs $32,500 $33,450 $34,950 $34,875 This project will require an investment of $25,000 in new equipment. Under the new tax law, the equipment is eligible for 100% bonus deprecation at t = 0, so it will be fully depreciated at the time of purchase. The equipment will have no salvage value at the end of the project’s four-year life. McFann pays a constant tax rate of 25%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project’s net present value (NPV) would be under the new tax law. Which of the following most closely approximates what the project’s net present value (NPV) would be under the new tax law?(Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $42,789.44 $47,543.82 $38,035.06 $54,675.39 Which of the of the following most closely approximates what the project’s NPV would be when using straight-line depreciation? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $57,676.74 $43,834.32 $46,141.39 $53,062.60 Using the depreciation method will result in the highest NPV for the project. No other firm would take on this project if McFann turns it down. Which of the following most closely approximates how much McFann should reduce the NPV of this project, assuming it is discovered that this project would reduce one of its division’s net after-tax cash flows by $600 for each year of the four-year project? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $1,582.25 $1,861.47 $1,396.10 $1,116.88 McFann spent $2,250 on a marketing study to estimate the number of units that it can sell each year. What should McFann do to take this information into account? Increase the amount of the initial investment by $2,250. Increase the NPV of the project $2,250. The company does not need to do anything with the cost of the marketing study because the marketing study is a sunk cost.

3. Analysis of an expansion project Companies invest in expansion projects with the expectation of increasing the earnings of its business. Consider the case of McFann Co.: McFann Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs: Year 1 Year 2 Year 3 Year 4 Unit sales 4,800 5,100 5,000 5,120 Sales price $22.33 $23.45 $23.85 $24.45 Variable cost per unit $9.45 $10.85 $11.95 $12.00 Fixed operating costs $32,500 $33,450 $34,950 $34,875 This project will require an investment of $25,000 in new equipment. Under the new tax law, the equipment is eligible for 100% bonus deprecation at t = 0, so it will be fully depreciated at the time of purchase. The equipment will have no salvage value at the end of the project’s four-year life. McFann pays a constant tax rate of 25%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project’s net present value (NPV) would be under the new tax law. Which of the following most closely approximates what the project’s net present value (NPV) would be under the new tax law?(Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $42,789.44 $47,543.82 $38,035.06 $54,675.39 Which of the of the following most closely approximates what the project’s NPV would be when using straight-line depreciation? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $57,676.74 $43,834.32 $46,141.39 $53,062.60 Using the depreciation method will result in the highest NPV for the project. No other firm would take on this project if McFann turns it down. Which of the following most closely approximates how much McFann should reduce the NPV of this project, assuming it is discovered that this project would reduce one of its division’s net after-tax cash flows by $600 for each year of the four-year project? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.) $1,582.25 $1,861.47 $1,396.10 $1,116.88 McFann spent $2,250 on a marketing study to estimate the number of units that it can sell each year. What should McFann do to take this information into account? Increase the amount of the initial investment by $2,250. Increase the NPV of the project $2,250. The company does not need to do anything with the cost of the marketing study because the marketing study is a sunk cost.

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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3. Analysis of an expansion project

Companies invest in expansion projects with the expectation of increasing the earnings of its business.

Consider the case of McFann Co.:

McFann Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs:

	Year 1	Year 2	Year 3	Year 4
Unit sales	4,800	5,100	5,000	5,120
Sales price	$22.33	$23.45	$23.85	$24.45
Variable cost per unit	$9.45	$10.85	$11.95	$12.00
Fixed operating costs	$32,500	$33,450	$34,950	$34,875

This project will require an investment of $25,000 in new equipment. Under the new tax law, the equipment is eligible for 100% bonus deprecation at t = 0, so it will be fully depreciated at the time of purchase. The equipment will have no salvage value at the end of the project’s four-year life. McFann pays a constant tax rate of 25%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project’s net present value (NPV) would be under the new tax law.

Which of the following most closely approximates what the project’s net present value (NPV) would be under the new tax law?(Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.)

$42,789.44

$47,543.82

$38,035.06

$54,675.39

Which of the of the following most closely approximates what the project’s NPV would be when using straight-line depreciation? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.)

$57,676.74

$43,834.32

$46,141.39

$53,062.60

Using the depreciation method will result in the highest NPV for the project.

No other firm would take on this project if McFann turns it down. Which of the following most closely approximates how much McFann should reduce the NPV of this project, assuming it is discovered that this project would reduce one of its division’s net after-tax cash flows by $600 for each year of the four-year project? (Hint: Round your final answer to two decimal places and choose the value that most closely matches your answer.)

$1,582.25

$1,861.47

$1,396.10

$1,116.88

McFann spent $2,250 on a marketing study to estimate the number of units that it can sell each year. What should McFann do to take this information into account?

Increase the amount of the initial investment by $2,250.

Increase the NPV of the project $2,250.

The company does not need to do anything with the cost of the marketing study because the marketing study is a sunk cost.

Expert Solution

Step 1

The process of evaluating a project's feasibility and profitability is considered capital budgeting. There are numerous capital budgeting tools employed to decide whether to accept or reject any investment alternative. The net present value is among them. It is the excess of cash flow's current worth over the initial investment.

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