a. Use exhibits 26-3 and 26-4 to help compute the net present value of the proposal to sell the existing equipment and buy the laser printer, discounted at an annual rate of 15 percent. In you computation, make the following assumptions regarding the timing of cash flows. 1. The purchase price of the laser printer will be paid in cash immediately. 2. The $200,000 sales price of the existing equipment will be received in cash immediately. 3. The income tax benefit from selling the equipment will be realized one year from today.
a. Use exhibits 26-3 and 26-4 to help compute the net present value of the proposal to sell the existing equipment and buy the laser printer, discounted at an annual rate of 15 percent. In you computation, make the following assumptions regarding the timing of cash flows. 1. The purchase price of the laser printer will be paid in cash immediately. 2. The $200,000 sales price of the existing equipment will be received in cash immediately. 3. The income tax benefit from selling the equipment will be realized one year from today.
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
Related questions
Question
100%
a. Use exhibits 26-3 and 26-4 to help compute the
1. The purchase price of the laser printer will be paid in cash immediately.
2. The $200,000 sales price of the existing equipment will be received in cash immediately.
3. The income tax benefit from selling the equipment will be realized one year from today.
Transcribed Image Text:rin
Critical Thinking Cases
The management of Metro Printers is considering a proposal to replace some existing equip-
ment with a new highly efficient laser printer. The existing equipment has a current book value
of $2,200,000 and a remaining life (if not replaced) of 10 years. The laser printer has a cost of
$1,300,000 and an expected useful life of 10 years. The laser printer would increase the company's
annual cash flows by reducing operating costs and by increasing the company's ability to generate
revenue. Susan Mills, controller of Metro Printers, has prepared the following estimates of the
laser printer's effect on annual earnings and cash flow.
Estimated increase in annual cash flow (before taxes):
Incremental revenue
Cost savings (other than depreciation)
Reduction in annual depreciation expense:
Depreciation on existing equipment
Depreciation on laser printer
Estimated increase in income before income taxes
Increase in annual income taxes (40%)
Estimated increase in annual net income
Estimated increase in annual net cash flows
($250,000 - $136,000)
...
Book value of existing printing equipment
Estimated current sales price, net of removal costs
Estimated loss on sale, before income taxes
Reduction in current year's income taxes as a result of loss (40%).
Loss on sale of existing equipment, net of tax savings
1153
$140,000
110,000 $250,000
$220,000
130,000
90,000
$340,000
136,000
$204,000
$114,000
Don Adams, a director of Metro Printers, makes the following observation: "These estimates
look fine, but won't we take a huge loss in the current year on the sale of our existing equipment?
After the invention of the laser printer, I doubt that our old equipment can be sold for much at all."
In response, Mills provides the following information about the expected loss on the sale of the
existing equipment.
$2,200,000
200,000
$2,000,000
800,000
$1,200,000
Adams replies, "Good grief, our loss would be almost as great as the cost of the laser itself.
Add this $1,200,000 loss to the $1,300,000 cost of the laser, and we're into this new equipment for
$2,500,000. I'd go along with a cost of $1,300,000, but $2,500,000 is out of the question.
Transcribed Image Text:ated in Appendix B
Who are not familiar with the concept of present value or with
value tables should read the appendix before continuing with this chapter.
For your convenience, the two present value tables presented in the appendix are repeated
in this chapter. Exhibit 26-3 shows the present value of a single lump-sum payment of $1
to be received in n periods (years) in the future. Exhibit 26-4 shows the present value of a
$1 annuity-that is, $1 to be received each year for n consecutive years. For illustrative pur-
poses, both tables have been kept short. They include only selected discount rates and only
Number of
Periods
(n)
1
2
3
4
5
6
7
8
9
10
20
24
36
Number of
Periods
(n)
123
4
5
6
7
8
9
10
20
24
36
Present Value of $1 Due in n Periods*
Discount Rate
5%
1%
1%
1½%
6%
.926
.909
.893
.870
990
.980
985 952 .943
971 .907 .890
.864 .840
.857 .826
.797
.756
971 956
.794
.794
.751
.751
.712
712
.658
.961
942
823 792
.735
.683
.636
.572
.951
.928
.784
.784 747
.747
.681
.621 .567
.497
.942
915
.746 .705 .630
.564
.507 432
.933
901
.901 .711 .665 .583
.583
.513
.452 .376
.467 .404 .327
.923 888
540
.677 627
875 645 592
.914
.905
.820
.500
.424 .361 .284
.862 .614 .558 .463 .386 .322 .247
.742 .377 .312 .215 .149 .104 .061
.700 .310 .247 .158 .102 .066 .035
.699 .585 .173 .123 .063 .032 .017 .007
.788
8%
*The present value of $1 is computed by the formula p = 1/(1 + i)", where p is the present value of $1, i is the discount rate, and n is the
number of periods until the future cash flow will occur. Amounts in this table have been rounded to three decimal places and are shown for a
limited number of periods and discount rates. Most financial calculators are programmed to use this formula and can compute present values
when the future amount is entered along with values for i and n.
5%
6%
10%
Present Value of $1 to Be Received Periodically for n Periods
Discount Rate
8%
12%
15%
10%
20%
.833
.694
.579
.482
.402
.335
.279
.233
.194
.162
.026
.013
.001
12%
15%
20%
1½%
0.990 0.985 0.952
1.970 1.956 1.859
0.926 0.909
0.833
0.943
1.833
0.893
1.783 1.736 1.690
0.870
1.626 1.528
2.577
2.577 2.487 2.402
2.283 2.106
2.941 2.912 2.723 2.673
2.673
3.902 3.854 3.546
3.312 3.170 3.037 2.855 2.589
3.465
4.853 4.783 4.329 4.212 3.993 3.791 3.605 3.352 2.991
5.795 5.697 5.076 4.917 4.623 4.355 4.111 3.784 3.326
6.728 6.598 5.786 5.582 5.206 4.868 4.564 4.160 3.605
6.463 6.210 5.747 5.335 4.968 4.487 3.837
6.247 5.759 5.328 4.772 4.031
7.652 7.486
7.486
8.566 8.361 7.108 6.802
9.471 9.222 7.722 7.360
7.360 6.710 6.145 5.650 5.019 4.192
18.046 17.169 12.462 11.470 9.818 8.514 7.469 6.259 4.870
21.243 20.030 13.799 12.550 10.529 8.985 7.784 6.434 4.937
30.108 27.661 16.547 14.621 11.717 9.677 8.192 6.623 4.993
EXHIBIT 26-3
Present Value of $1 F
in n Periods
EXHIBIT 26-4
Present Value of a $1.
Receivable Each Perioc
Periods
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