please show all calculations

Capital Budgeting: Practice Questions

1. Consider a project to supply the highway department of your state with 25,000 tons of rock salt annually to drop on winter roads in your county. You will need an initial $1,250,000 investment in processing equipment to get the project started; the project will last for five years. The accounting department estimates that annual fixed costs will be $200,000 and that variable costs should be $90 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the five-year project life. It also estimates a scrap value of $100,000 at the end of project's life. The marketing department estimates that the state will let the contract at a selling price of $120 per ton. The engineering department estimates you will need an initial net working capital investment of $90,000. You require a 14 percent return and face a tax rate of 38 percent on this project.

2. Consider a project to supply 10 million empty sandbags per year to the Army Corps of Engineers for the next four years. You have an idle manufacturing plant available that cost $1 million five years ago; if the plant was scrapped today, it would net you $100,000. You will need to install $1.8 million in new manufacturing equipment to actually produce the sandbags; this equipment will be depreciated straight-line to zero over its four-year life. The equipment can be sold for $200,000 at the end of the project. You will also need $200,000 in initial net working capital for the project. Your production costs are 20 cents per sandbag and you have fixed costs of $300,000 per year. If your tax rate is 34 percent and your required return on this project is 14 percent, what bid price will you submit on the contract?

3. You are evaluating two different sound mixers. The Jazzmaster costs $75,000, has a three-year life, and has pre-tax operating costs of $10,000 per year. The Discomaster costs $100,000 has a five-year life, and has pre-tax operating costs of $8,000 per year. For either sound mixer, you use straight-line depreciation to zero over the project's life and assume a salvage value of $18,000. If your tax rate is 35 percent and your discount rate is 13 percent, which do you prefer? Why?