Good evening,

I have 3 questions regarding my homework, attached. I am lost with how to do the calculations for the following:

Tab P11-12, how to calculate the change in working capital? I don't know how to generate this amount from the given information.

Tab P12-2, I am stuck at calculating the Annual cash flows for both scenarios.

Tab P12-4, Could you check my work for Project A?

Thank you!

LG 2 Payback comparisons Nova Products has a 5 year maximum acceptable payback period. Considering a new machine and choosin of the next 7 years. Machine two initial investment of $21,000 with annual cash inflow after taxes of $4,000 Initial Cost Annual after tax cash inflow Years of productivity Acceptable payback period, Payback Period, yrs Machine A $14,000 $3,000 7 5 4.67 Machine B $21,000 $4,000 20 5 5.25 $7,000 difference Pay Back $1,000 difference 13 difference $13,000 after tax cash inflow for 20 years of produ $6,000 after tax cash inflow for 20 years of produ A Determine payback period for each machine The payback period is the time it takes the firm to recover its initial invetment in the project. Calculated fro B Comment on the acceptability of the machines, assuming that they are independent projects. The payback method is considered an unsophisticated captial budgeting techique becaue it does not consid management based on factors of use, type of project, life cycle, perceived riskl. share value. C Which machine should the firm accept? Why? Regardless of the projects being independent, machine B exceeds the payback period of 5 years. It should using only the payback comparison as the measure to invest, then Machine A is the one that should be aqu D Do the machines in the problem illustrate any of the weaknesses of using payback? Discuss. Yes. Machine B has a higher initial cost by $7,000. It also has a 20 year productivity expectation and $1,00 $6,00 over the 20 years of its expected productivity. Machine B maginally exceeds the payback period set w machine and choosing between alternatives. First machine initial investment of $14,000 with annual after-tax cas infolow w after taxes of $4,000 for 20 years. initial investment / annual cash flow w for 20 years of productivity. w for 20 years of productivity over machine A project. Calculated from cash inflows. caue it does not consider the time value of money. The payback period is often subjectively set by e value. d of 5 years. It should be rejected. Machine A is within the designated payback period, therefore if ne that should be aquired by the firm. expectation and $1,000 increase in after tax cash inflow. The overall benefit of Machine B would be e payback period set by management by one financial quarter. after-tax cas infolow of $3,000 for each LG 3 NPV: Mutually exclusive projects Hook Industries is considering the replacement of one of its old drill presses. Three alternative r Press A Press B Press C Rate Initial investment (CF0) -$85,000 -$60,000 -$130,000 15% Year (t) Cash Inflows (CFt) 1 $18,000 $12,000 $20,000 2 $18,000 $14,000 $30,000 3 $18,000 $16,000 $20,000 4 $18,000 $18,000 $20,000 5 $18,000 $20,000 $20,000 6 $18,000 $25,000 $30,000 7 $18,000 $0 $40,000 8 $18,000 $0 $50,000 NPV ### ### ### Choice of Project Press B PI 0.95 1.04 0.92 PI Ranking Middle Best Worst A Calculate the net present value (NPV) of each press. NPV = Present value of cash inflows - Initial investment B Using NPV, evaluate the acceptability of each press. If the NPV is greater than $0 the firm may consider the purchase. In this case only Press B is ab C Rank the presses from best to worst using NPV. The firm should pursue the purchase of the drill with the highest NPV, Press C D Calculate the profitability index (PI) for each press. The profitability index (PI) is a variation of the NPV. The company should only pursue an investm greater than the initial cash purchase. The NPV and PI will always be correlated (a positive NPV of the company. PI = present value of cash inflows or NPV / initial cash outflow. E Rank the presses from best to worst using PI. ill presses. Three alternative replacement presses are under consideration. The firms cost of capital is 15%. In this case only Press B is above $0 and may be considered. NPV, Press C should only pursue an investment when the PI is greater than 1.0. A value greater than 1 indicates that the pre be correlated (a positive NPV will also have a positive, greater than 1 PI) and indicate if the investment will incr of capital is 15%. dicates that the present value of cash coming in is investment will increase or decrease the profitability LG 4 IRR: Mutually exclusive projects Bell Manufacturing is attempting to choose the better of two mutually exclusive projects for expa Project X Project Y Rate Initial investment (CF0) Year, t 1 2 3 4 5 IRR Preferred investment -$50,000 -$325,000 Cash inflows (CFt) $100,000 $140,000 $120,000 $120,000 $150,000 $95,000 $190,000 $70,000 $250,000 $50,000 220% 17% Project X 15% A Calculate IRR to the nearest whole percent for each of the projects. The internal rate of return (IRR) is a discounted rate that equates the net present value (NPV) of B Assess the acceptability of each project on the basis of the IRR found in part a. Both projects have an IRR above the 15% cost of capital, and therefore may be considered. C Which project, on this basis, is preferred? Project X has a substantially higher IRR, and will give the best return above the cost of capital an usive projects for expanding the firm's warehouse capacity. The firm's cost of capital is 15%. resent value (NPV) of an opportunity to $0. pg 407. the present value of cash inflows equals the initial investm und in part a. y be considered. the cost of capital and shareholder expectations then Project Y. Hence, Project X is the preferred project. ls the initial investment. erred project. LG 2, 3, 4Payback, NVP, and IRR Rieger International is attempting to evaluate the feasibility of investing $95,000 in a piece of equi Annual return Year, t Cash inflows (CFt) 0 -$95,000 1 $20,000 $20,000 2 $25,000 $45,000 3 $30,000 $75,000 4 $35,000 $110,000 5 $40,000 Cost of Capital 12% Payback period, yrs 4.60 NPV $9,080.60 IRR 15% Difference in cash flow year to year -$20,000 $35,000 A Calculate the payback period for the proposed investment. Payback period is the amount of time required for a firm to recover its initial investment Pay Back period = initial investment/annual cash inflow B C D Calculate the net present value (NPV) for the proposed investment. Calculate the internal rate of return (IRR), rounded to the nearest whole perce Evaluate the acceptability of the proposed investment using NPV and IRR. Wh The IRR at 15% represents the rate of return the firm can expect if all payments are mad should be able to satisfy investors. The firm will have paid off the initial investment in th reveals that the firm can expect $9,080.60 at the end of the 5th year. Both the NPV and 5,000 in a piece of equipment that has a 5-year life. The firm has estimated the cash inflows. The firm has Difference in cash flow and initial cash flow months to investment per month payback $15,000 ### 5.14 ver its initial investment in a project as calculated from cash inflows. Unsophisticated evaluation as it does n nvestment. e nearest whole percent, for the proposed investment. ing NPV and IRR. What recommendation would you make relative to implementation of the proj if all payments are made. The investment is anticipated to earn 3% more than the cost of capital and e initial investment in the 3rd quarter of the 4th year from the time it makes the investment. The NPV year. Both the NPV and IRR reflect the investment would be accceptable. ows. The firm has a 12% cost of capital. luation as it does not consider the time value of money. tation of the project? Why? of capital and ent. The NPV LG 2 Expansion versus replacement cash flows Edison Systems has estimated the cash flows over the 5-year lives for two projects, A and B. Replacemen Project A Project B t cash flows 12000a Initial Investment $40,000 Year Operating cash inflows Project A 1 $10,000 $6,000 $4,000 2 $12,000 $6,000 $6,000 3 $14,000 $6,000 $8,000 4 $16,000 $6,000 $10,000 5 $10,000 $6,000 $4,000 a A After-tax inflow expected form liquidation. If project A were a replacement for project B and the $12,000 initial investment sh the after-tax cash inflow expected from liquidating it, what would be the relevant replacement decision? The initial investment for replacements it eh difference between the initial investment neede and any after-tax cash inflow or outflows expected from liquidation of the old asset. The operating cash flows are the difference between the operating cash flows form the new a B How can an expansion decision such as project A be viewed as a special form of a Replacement decisions are more cumbersome to calculate than expansion decisions, becaus incremental cash flows resulting from the proposed replacement. However, all expansion de decisions in which all cash flows from he old asset are zero. or two projects, A and B. These cash flows are summarized. 0 initial investment shown for project B were would be the relevant cash flows for this e initial investment needed to acquire the new asset of the old asset. cash flows form the new asset and those from the old asset. as a special form of a replacement decision? ansion decisions, because the firm has to calculate the owever, all expansion decisions are replacement LG 3, 4 Initial investment: Basic calculation Cushing Corporation is considering the purchase of a new grading machine to replace the existing Depreciated under MACRS using a 5-year recovery period. Table 4.2 pg 120 for depreciate percent costs, deprecated using a 5-year recovery period under MARCRS. Existing machine can be sold for Calculate the initial investment associated with the proposed purchase of a new gradin Cash flows of equipment Table 4.2 Current machine $20,000 Year 1 20% $8,000 5 year depreciation 12% Year 2 32% $12,800 Installed cost $20,000 Year 3 19% $7,600 total cost $40,000 Year 4 12% Book value $11,600 Year 5 12% Current sale price $25,000 Year 6 5% Gain on sale $13,400 100% $28,400 Tax on gain $5,360 New machine $35,000 Installed cost $5,000 Tax bracket 40% Initial investment New Machine Installed cost $40,000 Net outflow the acquisition requires. After-taxProceeds from sale of The IRS old assetfrom sale of $18,760 requires the asset are Change old in working firm to add net cash capital the installation not enough information inflows it costs to the Initial investment provides net purchase cash flow $21,240 of any costs price of an incurred in asset to process pg 439 the basic format for determining initial investment determine of removing 1. Installed cost of new asset = Cost of new asset + installation costs depreciable and value. disposing of chemical 2. After-tax and proceeds nuclear from sale of old asset = proceeds from sale of old asset + or - tax on sale of wastes. Book value = Installed cost accumulated 3. Change in net working capital depreciation Difference between the firm's Initial investment cash flow = 1 - 2 + or - 3. current assets and its current liabilities. Regardless of an increase or decrease it is not taxable. It ia s a net buildup or net reduction of current replace the existing one. The existing machine was purchased 3 years ago at an installed cost of $20,000. r depreciate percentages. Usable life of 5+ years. New machine costs $35,0000 and requires $5,000 instal chine can be sold for $25,000 without incurring any removal or cleanup costs. Firm is at a 40% tax rate. e of a new grading machine. + or - tax on sale of old asset stalled cost of $20,000. and requires $5,000 installation is at a 40% tax rate. LG 2 Breakeven cash inflows The one Ring Company, is considering the purchase of new casting equipment that will allow it to exp the equipment will produce steady income through its 10-year life. Life (yrs) 0 1 2 3 4 5 6 7 8 9 10 Equipment cost Rate Annual cash outflow 9% -$750,000 ? 1 0.92 0.84 0.77 0.71 0.65 0.60 0.55 0.50 0.46 0.42 NPV Breakeven Cash inflow -$750,000 ### A If One Ring requires a 9% return on its investment, what minumum yearly cash inflow will be nec Pg 472 Find the breakeven cash inflow using PMT. B How would the minimum yearly cash inflow change if the company required a 12% return on its that will allow it to expand its product line. The up-front cost of the equipment is $750,000. The company expe Life (yrs) 0 1 2 3 4 5 6 7 8 9 10 Equipment cost Annual cash outflow -$750,000 ? Rate NPV Breakeven Cash inflow 12% 1 0.89 0.80 0.71 0.64 0.57 0.51 0.45 0.40 0.36 0.32 -$750,000 $132,738.12 y cash inflow will be necessary for the company to go forward with this project? ed a 12% return on its investment? The company expects that LG 2 Basic scenario analysis Mutually exclusive additions to processing capacity. Project A Project B ($8,000) ($8,000) Initial investment (CFo) Annual Cash inflows (CF) Outcome $200 $900 Pessimistic $1,000 $1,000 most likely $1,800 $1,100 Optimistic $1,600 $200 Range A Determine the range of annual cash inflows for each of the two projects. B Assume that the firms cost of capital is 10% an that both projects have 20-year lives. Constr C Do parts A and B provide consistent views of the two project? Yes, in that Project B has a lesser range than project A. D Which project do you recommend? Since Project B has a significantly lesser range, it offers less risk than project A. I would recom Project A Project B ($8,000) Initial investment (CFo) ($8,000) 10% Cost of capital 20 Life (yrs) Net Present Values Pessimistic Inflow $200 ($6,297.29) ($337.79) Most likely $1000 $513.56 $513.56 Optomistic $1,800 $7,324.41 $1,364.92 Range $13,621.70 $1,702.71 h of the two projects. both projects have 20-year lives. Construct a table similar to this one for the NPVs for each project. Include o project? ffers less risk than project A. I would recommend project B. or each project. Include the range of NPVs for each project. Mutually Exclusive Projects Project Alpha Annual Cash Year Outflow/Inflow 0 (5,500,000) 1 300,000 2 500,000 3 500,000 4 550,000 5 700,000 6 800,000 7 950,000 8 1,000,000 9 1,250,000 10 1,500,000 11 2,000,000 12 2,500,000 10% PVIF NPV 1.0000 $ (5,500,000) 0.9091 272,727 0.8264 413,223 0.7513 375,657 0.6830 375,657 0.6209 434,645 0.5645 451,579 0.5132 487,500 0.4665 466,507 0.4241 530,122 0.3855 578,315 0.3505 700,988 0.3186 796,577 $ 383,499 Project Beta PVIFA ANPV Annual Cash YeOutflow/Inflo 0 (6,500,000) 1 400,000 2 600,000 3 800,000 4 1,100,000 5 1,400,000 6 2,000,000 7 2,500,000 8 2,000,000 9 1,000,000 10% PVIF 1.0000 0.9091 0.8264 0.7513 0.6830 0.6209 0.5645 0.5132 0.4665 0.4241 6.8137 $ 56,284 Reviewing the NPV's calculated for the two mutually exclusive projects, we see that project Alpha would be as Alpha has a NPV of $383,499 relative to the NPV of Beta which is $350,116. However, when we compare these mutually exclusive projects on the basis of their respective ANPVs, projec project Alpha because it provides the higher annualized net present value ($60,794 versus $56,284). Project Beta NPV $ (6,500,000) 363,636 495,868 601,052 751,315 869,290 1,128,948 1,282,895 933,015 424,098 $ 350,116 PVIFA ANPV 5.7590 $ 60,794 project Alpha would be preferred over project Beta respective ANPVs, project Beta would be preferred over 4 versus $56,284). The Drillago Company Calculation of the NPV, IRR, and the Payback Period Facts of case: maturity (n) cost-of-capita Initial outlay Year 0 1 2 3 4 5 6 7 8 9 10 10 13% ### years Excel function ### Estimated Trial and error 0.14763097 Cash NPV Technique IRR Technique Outflows/Inf PV PV Payback Technique ### ### ### 600,000 530973.45 522816.14 ### 1,000,000 783146.68 759268.67 ### 1,000,000 693050.16 661596.53 ### 2,000,000 1226637.46 1152977.82 ### 3,000,000 1628279.81 1506988.54 ### 3,500,000 1681114.85 1531984.87 ### 4,000,000 1700242.57 1525612.24 $ 100,000 0.03 6,000,000 2256959.17 1994036.77 $6,100,000 8,000,000 2663078.67 2316699.14 ### 12,000,000 3535060.18 3028019.27 ### ### (0.03) 6.03 years Recap: NPV IRR Payback ### Accept the project as the NPV 14.76% Approximately as it equates Accept the project as the IRR (14.76%) > 6.03 years approximately The Damon Corporation Calculation of the Initial Investment Installed cost of proposed machine Cost of proposed machine plus: Installation costs Total installed cost - proposed (depreciable value) After-tax proceeds from sale of present machine Proceeds from sale of present machine less: Tax on sale of present machine Total after-tax proceeds - present $ 145,000 15,000 $ 70,000 14,080 Change in net working Capital Initial investment Tax on sale of old machine cost of old machine MACRS year 1 year 2 year 3 $ 120,000 20% 32% 19% Book Value Sale price of old machine Gain on sale Tax rate Tax Expense $ $ $ $ 24,000 38,400 22,800 34,800 70,000 35,200 40% 14,080 Change in Working Capital Increase in receivables increase in inventory increase in payables Net working capital $ 160,000 $ 55,920 18,000 $ 122,080 $ 15,000 19,000 16,000 $ 18,000 Depreciation Expense for Proposed and Present Machines for the Damon Corporation Year Cost With proposed machine 1 $ 160,000 2 160,000 3 160,000 4 160,000 5 160,000 6 160,000 Total With present machine 1 $ 120,000 2 120,000 3 120,000 4 5 6 Total Applicable MACRS depreciation Depreciation 20% 32% 19% 12% 12% 5% 100% $32,000 51,200 30,400 19,200 19,200 8,000 $ 160,000 12% 12% 5% $ 14,400 14,400 6,000 0 0 0 $ 34,800 Calculation of Operating Cash Inflows for Damon Corporation Proposed and Present Machines Year 1 With proposed machine Earnings before depr. and int. and taxes Depreciation Earnings before interest and taxes Taxes Net operating profit after taxes Depreciation Operating cash inflows With present machine Earnings before depr. and int. and taxes Depreciation Earnings before interest and taxes Taxes Net operating profit after taxes Depreciation Operating cash inflows Year 3 Year 4 $ 105,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 110,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 120,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 120,000 #REF! #REF! #REF! #REF! #REF! #REF! $ 95,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 95,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 95,000 $ #REF! #REF! #REF! #REF! #REF! #REF! 95,000 #REF! #REF! #REF! #REF! #REF! #REF! 40% 40% Year 2 ation Year 5 Year 6 $ 120,000 $ #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! $ 95,000 $ #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! #REF! The Damon Corporation Calculation of the Terminal Cash Flow After-tax proceeds from sale of proposed machine Proceeds from sale of proposed machine Book value as of end of year 5 Net gain Tax on gain Total after-tax proceeds - proposed $ 24,000 8,000 $ 16,000 40% 6,400 After-tax proceeds from sale of present machine Proceeds from sale of present machine Book value as of end of year 5 Net gain Tax on gain Total after-tax proceeds - present $ 8,000 0 $ 8,000 40% 3,200 $ 9,600 $ 4,800 Change in net working capital #REF! Terminal Cash Flow #REF