Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

Puffy Clouds, a maker of data storage products, is considering adding a new manufacturing facility. The new facility would be housed in an unused building

Puffy Clouds, a maker of data storage products, is considering adding a new manufacturing facility. The new facility would be housed in an unused building that the firm bought 8 years ago for $5 million; the building is being depreciated over a 20 life to a salvage value of zero. The building can be sold today for $2 million, and the market value of the building is expected to increase at 5% per year going forward. The new facility would require the purchase of $50 million of equipment that would be depreciated straight line to zero over a useful life of 5 years. However, the firm expects this equipment would have a scrap value of $250,000 at the end of its 5-year life. The firm would finance the equipment purchase with a five-year debt issue that would carry an interest rate of 5% p.a. The new facility would add $20 million to annual revenues, which are currently $100 million per year. The higher manufacturing efficiency of the new facility would reduce annual operating costs from 40% of revenues to 35% for both existing and new sales revenues. The new facility would require a $500,000 increase in inventories and create a $100,000 increase in accounts payable, which would be reversed at the end of the project. The firms tax rate is 20% and the required rate of return is 8%.

  1. What is the dollar amount of any opportunity costs that must be recognized in estimating the initial cash flow?

  1. How should we account for the cash flows associated with the debt issue used to finance the equipment purchase?

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Global Business Today

Authors: Charles Hill

7th Edition

0078137217, 9780078137211

More Books

Students also viewed these Finance questions