At the end of 2015, Uma Corporation is considering undertaking a major long-term project in an effort to remain competitive in its industry. The production and sales departments have determined the potential annual cash flow savings that could accrue to the firm if it acts soon. Specifically, they estimate that a mixed stream of future cash flow savings will occur at the end of the years 2016 through 2021. The years 2022 through 2026 will see consecutive and equal cash flow savings at the end of each year. The firm estimates that its discount rate over the first 6 years will be 7%. The expected discount rate over the years 2022 through 2026 will be 11%. The project managers will find the project acceptable if it results in present cash flow savings of at least $860,000. The following cash flow savings data are supplied to the finance department for analysis. End of year 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 Cash flow savings $110,000 120,000 130,000 150,000 160,000 150,000 90,000 90,000 90,000 90,000 90,000 TO DO Create spreadsheets similar to Table 5.2, and then answer the following questions. a. Determine the value (at the beginning of 2016) of the future cash flow savings expected to be generated by this project. b. Based solely on the one criterion set by management, should the firm undertake this specific project? Explain. c. What is the "interest rate risk," and how might it influence the recommendation made in part b? Explain.
At the end of 2015, Uma Corporation is considering undertaking a major long-term project in an effort to remain competitive in its industry. The production and sales departments have determined the potential annual cash flow savings that could accrue to the firm if it acts soon. Specifically, they estimate that a mixed stream of future cash flow savings will occur at the end of the years 2016 through 2021. The years 2022 through 2026 will see consecutive and equal cash flow savings at the end of each year. The firm estimates that its discount rate over the first 6 years will be 7%. The expected discount rate over the years 2022 through 2026 will be 11%. The project managers will find the project acceptable if it results in present cash flow savings of at least $860,000. The following cash flow savings data are supplied to the finance department for analysis. End of year 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 Cash flow savings $110,000 120,000 130,000 150,000 160,000 150,000 90,000 90,000 90,000 90,000 90,000 TO DO Create spreadsheets similar to Table 5.2, and then answer the following questions. a. Determine the value (at the beginning of 2016) of the future cash flow savings expected to be generated by this project. b. Based solely on the one criterion set by management, should the firm undertake this specific project? Explain. c. What is the "interest rate risk," and how might it influence the recommendation made in part b? Explain.
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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Question
Transcribed Image Text:Spreadsheet Exercise
At the end of 2015, Uma Corporation is considering undertaking a major long-term
project in an effort to remain competitive in its industry. The production and sales
departments have determined the potential annual cash flow savings that could accrue
to the firm if it acts soon. Specifically, they estimate that a mixed stream of future
cash flow savings will occur at the end of the years 2016 through 2021. The years
2022 through 2026 will see consecutive and equal cash flow savings at the end of
each year. The firm estimates that its discount rate over the first 6 years will he 7%.
The expected discount rate over the years 2022 through 2026 will be 11%.
The project managers will find the project acceptable if it results in present cash
flow savings of at least $860,000. The following cash flow savings data are supplied
to the finance department for analysis.
End of year
2016
2017
2018
2019
2020
2021
2022
2023
2024
2025
2026
Cash flow savings
$110,000
120,000
130,000
150,000
160,000
150,000
90,000
90,000
90,000
90,000
90,000
TO DO
Create spreadsheets similar to Table 5.2, and then answer the following questions.
a. Determine the value (at the beginning of 2016) of the future cash flow savings
expected to be generated by this project.
b. Based solely on the one criterion set by management, should the firm undertake
this specific project? Explain.
c. What is the "interest rate risk," and how might it influence the recommendation
made in part b? Explain.
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