Case for Section I [15% of Course Grade]

THE VILLARD ELECTRIC COMPANY

The financial manager of the Villard Electric Company, Fred Taylor, has presented his estimates of cash flows resulting from the possible investment in a new computer system, The Web-net. Mr. Taylors estimates of net cash flows immediately and over the following four years are as follows:

Item	Base Initial 2017	First year 2018	Second year 2019	Third year 2020	Fourth year 2021
Purchase of computer system	$200,000
Sale of computer system					$40,000
Tax on sale of computer system					$12,442
Acquisition and disposition cash flows	$200,000	$0	$0	$0	$52,442
Change in expenses		$50,000	$50,000	$50,000	$50,000
Change in depreciation		$40,000	$64,000	$38,400	$23,040
Change in taxable income		$10,000	$14,000	$11,600	$26,960
Less: change in tax		$3,600	-$5,040	$4,176	$9,706
Change in income after tax		$6,400	-$8,960	$7,424	$17,254
Change in depreciation		$40,000	$64,000	$38,400	$23,040
Change in operating cash flows		$46,400	$55,040	$45,824	$40,294
Change in net cash flows	$200,000	$46,400	$55,040	$45,824	$92,736

Mr. Taylor has based his estimates on the following assumptions:

The cost of the system (including installation) is $200,000.

The system will be depreciated as a 5-year asset under the MACRS, but it will be sold at the end of the fourth year for $50,000.

Villards expenses will decline by $50,000 in each of the four years.

The companys tax rate will be 36%.

Working capital will not be affected.

When he made his presentation to Villards board of directors, Mr. Taylor was asked to perform additional analyses to consider the following uncertainties:

The cost of the system may be as much as 20% higher than or as low as 20% lower.

The change in expenses may be 30% higher or 20% lower than anticipated.

The tax rate may be lowered to 30%.

Requirements:

a. Re-estimate the projects cash flows to consider each of the possible variations in the assumptions, altering only one assumptions each time. Using a spreadsheet templateprovided and/or your own will help with the calculations.

b. Discuss the impact that each of the changes in assumptions has on the projects cash flows.

Note: see additional guidelines provided on preparation of your report.