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B D E 1 Part Four-Choosing Which Projects to Undertake Based on their Net Present Value Now that Solaris, Inc. has scr&ened out all potential projects that did not meet the company's requirements for payback or ARR, the company's accounting staff is ready to determine the most profitable project(s) to undertake with the newly available capital it created by outsourcing production of part #77c's. The company will discount all future cash flows at a rate of 10% annually. Fill out the chart below to determine the net present value (NPV) of the remaining potential 2 projects. 3 Discount Rate 10.00% 4 Project 5 Initial investment 6 Year one cash inflow 7 Year two cash inflow 8 Year three cash inflow 9 Year four cash inflow 10 Year five cash inflow 11 Year six cash inflow 12 13 Net Present Value Information about Potential Projects Solaris, Inc. has ten potential projects it can undertake using the capital which was freed up by outsourcing production of one of its parts. Information regarding the initial investment, residual value, life, and future 2 cash flows of each potential project are as follows: 3 Project A Project B Project C Project D Project E Initial Investment $ 200,000 $ 270,000 $ 100,000 $ 100,000 $ 300,000 5 Residual Value 20,000 10,000 5,000 6 Life of Project (Years) 6 6 3 5 6 7 Cash Flows: 8 Year One 40,000 60,000 40,000 25,000 75,000 9 Year Two 40,000 60,000 40,000 25,000 75,000 10 Year Three 40,000 60,000 40,000 25,000 75,000 11 Year Four 40,000 60,000 25,000 75,000 12 Year Five 40,000 60,000 25,000 75,000 13 Year Six 40,000 60,000 75,000 14 Project F Project G Project H Project I Project 15 Initial Investment $ 110,000 $ 250,000 $ 190,000 $ 300,000 $ 120,000 16 Residual Value 20,000 5,000 50,000 17 Life of Project (Years) 5 6 5 6 6 18 Cash Flows: 19 Year One 60,000 30,000 100,000 50,000 40,000 20 Year Two 30,000 30,000 60,000 100,000 40,000 21 Year Three 20,000 30,000 60,000 100,000 20,000 22 Year Four 20,000 60,000 40,000 25,000 20,000 23 Year Five 20,000 60,000 25,000 25,000 10,000 24 Year Six 80,000 50,000 10,000 Note: The receipt of cash from the residual value for all potential projects has already been included in its last year of cash flows. For example, Project A's year six cash flows of $40,000 already include the $20,000 25 residual value of the assets necessary for the project. 26 2 avoidable fixed costs of this part are as follows: 3 Quantity of Part 77c Needed for Production 100,000 4 Unit Purchase Cost if Outsourced 6.00 5 Direct Materials per Unit 3.50 6 Direct Labor per Unit 2.75 7 Variable Overhead per Unit 2.25 8 Avoidable Fixed Manufacturing Costs 50,000 Prepare a differential analysis in order to find the costs savings that Solaris will experience if it outsources production of 9 these internal power conditioners. Manufacture Outsource Cost of Producing Part 4770's 10 Intemally Difference Production 11 Variable Costs: 12 Direct Materials $ 350,000 $ 350,000 13 Direct Labor 275,000 275,000 14 Variable Manufacturing Overhead 225,000 225,000 15 Avoidable Fixed Costs 50,000 50,000 16 Purchase Cost of Outsourcing $ 600,000 (600,000) 17 Total Expected Cost of Part #770's 900,000 $ 600,000 $ 300,000 Using the results of this differential analysis, determine the amount of capital that Solaris, Inc. will free up by outsourcing 18 production of part #77c-an internal power conditioner. 19 Amount of Free Capital Created by Outsourcing Production $ 300,000 20 Part Two--Screen Potential Projects Using the Payback Method Fill out the following table to determine the payback period for all potential projects. Discard any potential projects that do not me Maximum Payback Period 4.50 years Project A Project B Project C Initial Investment $ 200,000 $ 270,000 $ 100,000 Year Annual Accumulated Annual Accumulated Annual Accumulated Ant 1 $ 40,000 $ 40,000 $ 60,000 $ 60,000 $ 40,000 $ 40,000 $ 2 40,000 80,000 60,000 120,000 40,000 80,000 3 40,000 120,000 60,000 180,000 40,000 120,000 4 40,000 160,000 60,000 240,000 5 40,000 200,000 60,000 300,000 6 40,000 240,000 60,000 360,000 Payback 5.00 years 4.50 years 2.50 years Project F Project G Project H H Initial Investment $ 110,000 $ 250,000 $ 190,000 Year Annual Accumulated Annual Accumulated Annual Accumulated 1 $ 60,000 $ 60,000 $ 30,000 $ 30,000 $ 100,000 $ 100,000 $ 30,000 90,000 30,000 60,000 60,000 160,000 20,000 110,000 30,000 90,000 60,000 220,000 4 20,000 130,000 60,000 150,000 40,000 260,000 5 20,000 150,000 60,000 210,000 25,000 285,000 6 80,000 290,000 Payback 3.00 years 5.50 ycars 2.50 years projects that do not meet Solaris, Inc.'s maximum payback period. pject C $ 100,000 Accumulated $ 40,000 $ 80,000 120,000 Project D $ 100,000 Annual Accumulated 25,000 $ 25,000 $ 25,000 50,000 25,000 75,000 25,000 100,000 25,000 125,000 . years Project E $ 300,000 Annual Accumulated 75,000 $ 75,000 75,000 150,000 75,000 225,000 75,000 300,000 75,000 375,000 75,000 450,000 4.00 years Project J $ 120,000 Annual Accumulated 40,000 $ 40,000 40,000 80,000 20,000 100,000 20,000 120,000 10,000 130,000 10,000 140,000 4.00 years pject H 4.00 years Project I $ 300,000 Annual Accumulated 50,000 $ 50,000 $ 100,000 150,000 100,000 250,000 25,000 275,000 25,000 300,000 50,000 350,000 5.00 years $ 190,000 Accumulated $ 100,000 $ 160,000 220,000 260,000 285,000 years