1. Fat Tire Bicycle Company currently sells 40,000 bicycles per year. The current bike is a standard balloon tire bike, selling for $90 with a production and shipping cost of $35. The company is thinking of introducing an off-road bike with a projected selling price of $410 and a production and shipping cost of $360. The projected annual sales for the off-road bike are 12,000. The company will lose sales in fat-tire bikes of 8,000 units per year if it introduces the new bike, however. What is the erosion cost from the new bike? Should Fat Tire start producing the off-road bike? 2. Revolution Records will build a new recording studio on a vacant lot next to the operations center. The land was purchased five years ago for $450,000. Today the value of the land has appreciated to S780,000. Revolutionary Records did not consider the value of the land (it had already spent the money to acquire the land long before this project was considered). The NPV of the recording studio was $600,000. Should Revolution Records consider the land as part of the cash flow of the recording studio? If yes, what value should be used, $450,000 or $780,000? How will the value affect the project? 3. Brock Florist Company buys a new delivery truck for $29,000. It is classified as a light-duty truck. Calculate the depreciation schedule using a five-year life and MACRS depreciation. 4. Brock Florist Company sold their delivery truck in problem (see Problem 3) after three years of service. If MACRS was used for the depreciation schedule, what is the after tax cash flow from the sale of the truck (continue to use 30% tax rate) if a. the sales price was $15,000? b. the sales price was $10,000? c. the sales price was $5,000? 5. Grady Precision Measurement Tools has forecasted the following sales and costs for a new GPS system: annual sales of 48,000 units at $18 a unit, production costs at 37% of sales price, annual fixed costs for production at $180,000, and depreciation expense (straight-line) of $240,000 per year. The company tax rate is 35%. What is the annual operating cash flow of the new GPS system? 6. The managers of Classic Autos Incorporated plan to manufacture classic Thunderbirds (1957 replicas). The necessary foundry equipment will cost a total of $4,000,000 and will be depreciated using a five-year MACRS life. Projected sales in annual units for the next five years are 300 per year. If sales price is $27,000 per car, variable costs are $18,000 per car, and fixed costs are $1,200,000 annually, what is the annual operating cash flow if the tax rate is 30%? The equipment is sold for salvage for $500,000 at the end of year five. What is the after tax cash flow of the salvage? Net working capital increases by S600,000 at the beginning of the project (Year 0) and is reduced back to its original level in the final year. What is the incremental cash flow of the project? Using a discount rate of 12% for the project, determine whether the project be accepted or rejected with the NPV decision model? (Note: I encourage you to use Excel to answer this question.) 7. Eric has another get-rich-quick idea but needs funding to support it. He chooses an all-debt funding scenario. Eric will borrow $2,000 from Wendy, who will charge Eric 6% on the loan. He will also borrow $1,500 from Bebe, who will charge 8% on the loan and $800 from Shelly, who will charge 14% on the loan. What is the weighted average cost of capital for Eric? 8. Kenny Enterprises has just issued a bond with a par value of S1000, twenty years to maturity, and an 8% coupon rate with semiannual payments. What is the cost of debt for Kenny Enterprises if the bond sells at $920? (Hint: you need to use Excel to answer this question.) 9. Answer question 8 if Kenny Enterprises has to pay $25 per bond to an investment bank to help them in the bond issuance process. 10. Kyle is raising funds for his company by selling preferred stock. The preferred stock has a par value of $100 and a dividend rate of 6%. The stock is selling for S80 in the market. What is the cost of preferred stock for Kyle? 11. Stan is expanding his business and will sell common stock for the needed funds. If the current risk-free rate is 4% and the expected market return is 12%, what is the cost of equity for Stan if the beta of the stock is 0.75? 12. The CFO of DMI is trying to determine the company's WACC. Brad, a promising MBA, says that the company should use book value to assign the components percentage for the WACC. Angela, a long-time employee and experienced financial analyst, says the company should use market value to assign the components. The after-tax cost of debt is at 7%, the cost of preferred stock is at 11%, and the cost of equity is at 14%. Calculate the WACC using both the book value and market value approaches with the following information. Which do you think is better? Why? DMI Company Balance Sheet (in thousands) Current Assets: Long-Term Assets: $32,000 $66,000 Current Liabilities: Long-Term Liabilities Bonds Payable $54,000 Owner's Equity Preferred Stock $12,000 $32,000 Common Stock Total L & OE Total Assets: $98,000 Total $98,000 Market Information Debt Preferred Stock 54,000 120,000 $1085 $95.40 Outstanding Common Stock 1,280,000 $32.16 Market Price 13. Clark Explorers Inc., an engineering firm has the following capital structure: Equity Preferred Stock $110.00 Debt $955.00 Market price $30.00 Outstanding units units 120,000 10,000 6,000 $1,000,000 Book value Cost of capital $3,000,000 15% $6,000,000 9% 129 Using market value and book value (separately, of course), find the adjusted WACC for Clark Explorers at tax rate equal to 35%. 14. Hollydale's is a clothing store in East Park. It paid an annual dividend of $2.50 last year to its shareholders and plans to increase the dividend annually at 2%. It has 500,000 shares outstanding. The shares currently sell for $21.25 per share. Hollydale's has 10,000 semiannual bonds outstanding with a coupon rate of 7.5%, a maturity of 16 years, and a par value of $1,000. The bonds are currently selling for $874.08 per bond. What is the adjusted WACC for Hollydale's if the corporate tax rate is 35%