Question 10.1

Bowser Company's required rate of return is 14%. The company is considering the purchase of three machines, as indicated below. Consider each machine independently. (Ignore income taxes in this problem.)

Required:

1. Machine A will cost $20,000 and will have a useful life of 15 years. Its salvage value will be $1,800, and cost savings are projected at $4,000 per year. Calculate the machine's net present value.
2. How much shouldBowser Company be willing to pay for Machine B if the machine promises annual cash inflows of $6,000 per year for eight years?
3. Machine C has a projected life of ten years. What is the machine's internal rate of return if it costs $40,000 and will save 7,000 annually in cash operating costs? Would you recommend toBowser Company to purchase Machine C? Explain.

Question 10.2 (Total: 27 marks)

Shooting Star, Inc. is considering a project that would have an eight -year life and would require a $2,000,000 investment in equipment. At the end of ten years, the project would terminate and the equipment would have no salvage value. The project would provide net income each year as follows:

Sales	$2,000,000
Less:Variable Expenses	$1,600,000
Contribution Margin	$400,000
Less:Fixed Expenses	$200,000
Net Income	$200,000

All of the above items, except for depreciation of $200,000 a year, represent cash flows. The depreciation is included in the fixed expenses. The company's required rate of return is 10%. (Ignore income taxes in this problem.)

Required:

1. What is the project's net present value?
2. What is the project's internal rate of return?
3. What is the project's payback period?
4. What is the project's simple rate of return?

Question 10.4 (Total: 30 marks)

Elf on a Shelf Company bought a new computer-assisted design (CAD) software for $10,000,000 at the beginning of Year 1. The software has a useful life of 3 years and will save the company annual cash operating expenses of $4,000,000 in each of those 3 years. The software will have a zero net salvage value at the end of 3 years. It belongs to Class 12 with a capital cost allowance (CCA) rate of 100%. With special permission from the Canada Revenue Agency, the half-year CCA rule has been waived for the company to permit a maximum 100% CCA deduction for Year 1. The company's income tax rate and after-tax cost of capital are 40% and 12%, respectively.

Required:

1. Calculate the maximum total CCA tax shied available to the company.
2. Calculate the present value of the annual cash savings in operating expenses.
3. Calculate the net present value (NPV) of the investment.
4. Was the internal rate of return (IROR) greater than or less than the company's after-tax cost of capital of 12%? (Note: Do NOT try to calculate the implied actual internal rate or return.)
5. By how much must the annual savings in operating expenses be increased or decreased to make the investment just worthwhile, that is, either zero NPV or 12% IROR?