Based on several problems from the textbook, this assignment provides an opportunity to analyze financial data to determine whether it is financially advantageous to purchase new equipment.
- In Problem 11-65 on page 472 of the text, assess the benefits and costs of new machinery to replace old operational methods for Berradi Corp.
- Problem 11-73 on pages 476-477 asks you to an Excel spreadsheet to calculate net present value and payback periods for a purchase decision at Amazon.com.
DGETING this estimate is accurate. However, he also knows that a higher quality of materials would be necessary with the new tools. He predicts the following costs with the new tools: Direct materials 3 40 Direct labor 25 Variable overhead 8 Fixed overhead 60* Total unit cost w "'The increase in xed overhead is caused by depreciation on the new tools. The company has a 40% marginal tax rate and requires a 12% after-tax rate of return. 1. Calculate the NPV of each of the three alternatives. Recognize the tax implications. which alter- native should Lee select? 2. What are some factors besides the NPV that should inuence Lee's selection? NIKE I'll-K PROBLEM I l-TZ Nike Capital Budgeting with NPV Examine Nike's nancial statements and notes 1 and 3 to those statements in Appendix C. 1. What method of depreciation does Nike use in reporting to shareholders? Do you think it uses the same method for tax purposes?I If not, what method do you suppose they use for tax reporting? Why? 2. What is the original cost of the machinery and equipment currently used by Nike? 1f Nike gener- ally invests about $400 million per year in machinery and equipment, what is the average useful life of its machinery and equipment? 3. Nike's Statement of Cash Flows shows that the company invested $432 million in property, plant, and equipment during scal 201 1. Assume that these assets have a useful life (315 years and that Nike requires a 14% pretax rate of return. Compute the minimum average annual pretax net cash inow that would justify this investment. 4. Using the $432 million of investment and the net cash flow you computed in requirement 3 (and assuming zero residual value), determine die investment's a) payback period and b} accounting rate of return on average investment. EXCEL APPLICATION EXERCISE I I-13 Net Present Value and Payback Period for a Purchase Decision Goal: Create a spreadsheet to compute the NPV and payback period to assist with a purchase deci- sion. Use the results to answer questions about your ndings. Scenario: Amazonarom is planning to purchase a new bar-coding machine for one of its ware- houses. You have been asked to prepare a simple analysis to determine whether Amazon should purchase the machine. The bar-mding machine costs $60,000. It has a 5-year economic life and an estimated residual value of $10,000. The estimated annual net cash ow from the machine is $16,000. Amazon.com's required rate of return is 16%. When you have completed your spreadsheet. answer the following questions: 1. What is the machine's NPV? 2. What is the machine' 3 payback period? 3. Should Amazon.com purchase the machine? Why or why not? Step-by-Step: l. Open a new Excel spreadsheet. 2. In column A, create boldfaced headings diat contain the following: Row 1: Chapter 11 Decision Guideline Row 2: Amazonnorn Row 3: Analysis for Purchase of Bar-Coding Machine Row 4: Today's Date 3. Merge and center the four heading rows across columns AlI. CHAPTER 11 4. in row 7, create the following bold-faced headings: Column A: Cash Outflow Column B: Calculations Column D: Annualized Cash Flows 5. Center the heading in column A, row 7 and then shade the heading as follows: Patterns tab: Color: Lightest gray {above white) Note: Adjust column width as necessary. ON . Merge and center the heading in column B. row 7 across columns BC. . Merge and center the heading in column D. row 7 across columns DH and shade the heading as follows: --.'l Patterns tab: Color: Lightest gray (above white) 8. In row 3, create the following bold-faced, center-justied column headings: Column A: Investment Column B: Net Present Value Column C: Payback Period Column D: Year 1 Column E: Year 2 Column F: Year 3 Column '3: Year 4 Column H: Year 5 Note: Adjust the width of ooltunns E and C as necessary. 9. Use the scenario data to fill in the investment and annualized cash ows for each of the 5 years. Note: The amount in the Divestment column should be entered as a negative amount because it represents cash outflow. Be sure to include the machine's residual value in the appropriate column when entering the Annualized Cash Flows data. 10. Use the NPV function to calculate the NPV of the machine in column B, row 9. Click Insert on the tool bar and selem Eunction. Then do the following: Function category: Financial Function name: NPV Complete the fill-in form that appears with the appropriate data from the scenario. Hint: Go to \"Help" and search the topic \"NPV.\" Review the help text Ihnt appears. Carefully lead the examples given and their ussuciuled formulas. Use the formula lhut matches the scenario dulu for Ihe problem. 11. Enter a formula to calculate the payback period in column C, row 9. Ensure a positive result by using the absolute value function in your payback formula. (The formula can be found in the chapter.) 12. Modify the format of the payback period result by clicking in the cell containing the results. At the end of the formula that appears in the formula bar, type the following: & \"years\". Rightjustify the result. 13. Format row 9, columns A43 and columns DH as follows: Number tab: Category: Currency Decimal places: 2 Symbol: $ Negative numbers: Red with parentheses 14. Save your work, and print a copy for your files. Note: Print your snrcadshecl using landscape lo cur-Ute lhal all columns appear on one page. COLLABORATIVE LEARNING EXERCISE l | J4 Capital Budgeting, Sensitivity Analysis, and Ethics Abrielle Rossi had recently been appointed controller of the soup division of a major food company. The division manager. Asitn Shanna, was known as a hard-driving. intelligent, uncompromising manager. He had been very successtl and was rumored to be on the fast track to corporate top management. maybe even in line for the company presidency. One of Abrielle's rst assignments was to prepare the nancial analysis for a new soup. Delhi Chicken. This product was especially important to Shanna because he was convinced that it would be a success and thereby a springboard for his ascent to top management. cumulative discounted net cash ow each year. 2. Would DGI invest in production of the game if it uses the payback period? 3. Would DGI invest in production of the game if it uses the NPN'r model? 4. Would you recommend that US] invest in this project? Explain. | |-63 Fixed and Current Assets; Evaluation of Performance Museum Clinic has been under pressure to keep costs down. The clinic administrator has been man aging various revenueproducing centers to maximize contributions to the recovery of the operating costs of the ciinic as a whole. The administrator has been considering whether to buy a specialpurpose CAT scan machine for $251,000. Its unique characteristics would generate additional cash operating income of $50,000 per year for the clinic as a whole. The clinic expects the machine to have a useful life of 8 years and a terminal salvage value of $35,000. The machine is delicate. It requires a constant inventory of various supplies and spare parts. When the clinic ums some of these items. it instantly replaces them so it maintains an investment of $7,000 at all times. However, the clinic fully recovers this investment at the end of the useful life of the machine. 1. Compute NPV if the required rate of return is 10%. 2. Compute the ARR on (a) the initial investment and (b) the \"average" investment. Assume straight-line depreciation. ' 3. Why might the administrator be reluctant to base her decision on the DCF model? | l-64 Investment Before and After Taxes Deer Valley Lodge. a ski area near Salt Lake City. has plans to eventually add ve new chairlifts. Suppose that one of the lifts costs $2.2 million. and preparing the slope and installing the lift costs another $1 .48 million. The lift will allow 300 additional skiers on the slopes, but there are only 40 days a year when the lodge needs the extra capacity. [Assume that Deer Valley will sell all 300 lift tickets on those 40 days.) Running the new life will cost $500 a day for the entire 200 days the lodge is open. Assume that lift tickets at Deer Valley cost $65 a day and added cash expenses for each skiersday are $9. The new lift has an economic life of 20 years. 1. Assume that the beforetax required rate of return for Deer Valley is 14%. Compute the before tax NPV of the new lift and advise the managers of Deer Valley about whether adding the lift will be a protable investment. 2. Assume that the after-tax required rate of return for Deer Valley is 8%. the income tax rate is 40%, and the MACRS re'coverj,r period is 10 years. Compute the after-tax N PV of the new lift and advise the managers of Deer Valley about whether adding the lift will he a protable investment. 3. What subjective factors would affect the investment decision? I l -65 After-Tax NPV Berradi Corp. is considering the purchase of a new stamping machine to manufacture its product. The following information is available: New Machine Purchase cost new $85,000 Annual increase in cash revenues 60,000 Annual increase in cash operating costs 42.000 Salvage valuel 0 years from now 5,000 If Berradi purchases the new machine. it wiil use it for 10 years and then trade it in on another machine. The company computes depreciation on a straight-line basis. for both taxes and nancial reporting purposes. Assume Berradi currently has an old stamping machine with a book value of $30,000 that it can currently dispose of for $8,000 if it buys the new machine. Assume Berradi's cost of capital is 14%. and its tax rate is 30%. Should the new machine be purchased based on the NPV method? I l-66 Minimization of Transportation Costs After Taxes, Ination Study Appendix 11. (This problem is similar to Problem \"-56, but the numbers are different and it includes taxes and ination elements.) The Green Lighting Company produces industrial and residen tial lighting fixtures at its manufacturing facility in Scottsdale. The company currently ships products to an eastern warehouse via common carriers at a rate of $.26 per pound of xtures {expressed in yearzero dollars]. The warehouse is located in Cieveland. 2,500 miles from Scottsdale. The rate will increase with ination. 11-65: Cost Increase in cash revenue Increase in cash operating costs Salvage value Number of years Old machine book value Old machine sale value Cost of capital Tax rate $85,000 $60,000 $42,000 $5,000 $10 $30,000 $8,000 14% 30% Old machine cash flow $14,600 Annual depreciation $8,000 Year 0 Cost ($85,000) Cash inflow $14,600 Increase in cash revenue Increase in cash operating costs Depreciation EBIT Less: Taxes Net income Add: depreciation Add: Salvage value Net cash flow ($70,400) NPV $9,190 1 2 3 4 5 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $15,000 $15,000 $15,000 $15,000 $15,000 The new machine should be purchased as the NPV is positive and greater than zero at $9,190. 6 7 8 9 10 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $5,000 $15,000 $15,000 $15,000 $15,000 $20,000 n zero at $9,190. Chapter 11 Decision Guideline Amazon.com Analysis for Purchase of Bar-Coding Machine Today's Date Cash Outflow Investment $60,000.00 Calculations Net Present Value Payback Period ($2,850.17) 3.75years 1 Decision Guideline mazon.com hase of Bar-Coding Machine oday's Date Year 1 $16,000.00 Annualized Cash Flows Year 2 Year 3 Year 4 Year 5 $16,000.00 $16,000.00 $16,000.00 $26,000.00 11-65: Cost Increase in cash revenue Increase in cash operating costs Salvage value Number of years Old machine book value Old machine sale value Cost of capital Tax rate $85,000 $60,000 $42,000 $5,000 $10 $30,000 $8,000 14% 30% Old machine cash flow $14,600 Annual depreciation $8,000 Year 0 Cost ($85,000) Cash inflow $14,600 Increase in cash revenue Increase in cash operating costs Depreciation EBIT Less: Taxes Net income Add: depreciation Add: Salvage value Net cash flow ($70,400) NPV $9,190 1 2 3 4 5 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $15,000 $15,000 $15,000 $15,000 $15,000 The new machine should be purchased as the NPV is positive and greater than zero at $9,190. 6 7 8 9 10 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $5,000 $15,000 $15,000 $15,000 $15,000 $20,000 n zero at $9,190. Chapter 11 Decision Guideline Amazon.com Analysis for Purchase of Bar-Coding Machine Today's Date Cash Outflow Investment $60,000.00 Calculations Net Present Value Payback Period ($2,850.17) 3.75years 1 Decision Guideline mazon.com hase of Bar-Coding Machine oday's Date Year 1 $16,000.00 Annualized Cash Flows Year 2 Year 3 Year 4 Year 5 $16,000.00 $16,000.00 $16,000.00 $26,000.00 11-65: Cost Increase in cash revenue Increase in cash operating costs Salvage value Number of years Old machine book value Old machine sale value Cost of capital Tax rate $85,000 $60,000 $42,000 $5,000 $10 $30,000 $8,000 14% 30% Old machine cash flow $14,600 Annual depreciation $8,000 Year 0 Cost ($85,000) Cash inflow $14,600 Increase in cash revenue Increase in cash operating costs Depreciation EBIT Less: Taxes Net income Add: depreciation Add: Salvage value Net cash flow ($70,400) NPV $9,190 1 2 3 4 5 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $15,000 $15,000 $15,000 $15,000 $15,000 The new machine should be purchased as the NPV is positive and greater than zero at $9,190. 6 7 8 9 10 $60,000 $60,000 $60,000 $60,000 $60,000 $42,000 $42,000 $42,000 $42,000 $42,000 $8,000 $8,000 $8,000 $8,000 $8,000 $10,000 $10,000 $10,000 $10,000 $10,000 $3,000 $3,000 $3,000 $3,000 $3,000 $7,000 $7,000 $7,000 $7,000 $7,000 $8,000 $8,000 $8,000 $8,000 $8,000 $5,000 $15,000 $15,000 $15,000 $15,000 $20,000 n zero at $9,190. Chapter 11 Decision Guideline Amazon.com Analysis for Purchase of Bar-Coding Machine Today's Date Cash Outflow Investment $60,000.00 Calculations Net Present Value Payback Period ($2,850.17) 3.75years 1 Decision Guideline mazon.com hase of Bar-Coding Machine oday's Date Year 1 $16,000.00 Annualized Cash Flows Year 2 Year 3 Year 4 Year 5 $16,000.00 $16,000.00 $16,000.00 $26,000.00
