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Exam 6: Making Capital Investment Decisions

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Question 31

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Assume a proposed project under consideration by the James River Co.requires $28,900 in fixed assets.The firm plans to ignore bonus depreciation and instead apply straight-line depreciation to zero over the asset's 6-year life.An aftertax salvage value of $5,400 is expected.The project will produce an annual operating cash flow of $7,300 and will require net working capital of $500 initially plus an additional $500 in Year 3.Net working capital will be restored to its original level when the project ends at the end of Year 6.The tax rate is 21 percent and the required rate of return is 14 percent.What is the net present value of this project?

A) $1,565.54
B) $1,196.87
C) $1,072.72
D) $1,337.75
E) $1,398.29

F) B) and D)
G) A) and C)

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Question 32

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The annual annuity stream of payments with the same present value as a project's costs is called the project's ________ cost.

A) incremental
B) sunk
C) opportunity
D) erosion
E) equivalent annual

F) B) and E)
G) A) and C)

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Question 33

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This chapter introduced three new methods for calculating project operating cash flow (OCF).Under what circumstances is each method appropriate?

Jeff's Stereos is expanding its product offerings which includes increasing the floor inventory by $150,000,increasing accounts receivable by $35,000,and increasing its debt to suppliers by $75,000.The company will also spend $200,000 for a building contractor to expand the size of the showroom.What is the amount of the project's initial cash flow?

Northern Enterprises just purchased $1,900 of fixed assets that are classified as 3-year MACRS property.The MACRS rates are 33.33 percent,44.44 percent,14.82 percent,and 7.41 percent for Years 1 to 4,respectively.What is the amount of the depreciation expense for Year 2? Ignore bonus depreciation.

Leisure Vacations is considering a project which will require the purchase of $1.4 million in new 5-Year MACRS equipment.The MACRS rates are 20 percent,32 percent,19.2 percent,11.52 percent,11.52 percent,and 5.76 percent for Years 1 to 6,respectively.Ignore bonus depreciation.The firm desires a minimal 14 percent rate of return and has a combined tax rate of 25 percent.What is the value of the depreciation tax shield in Year 2 of the project?

Lottie's Boutique needs to maintain 15 percent of its sales in net working capital.The firm is considering a 3-year project which will increase sales from their current level of $110,000 to $125,000 the first year and to $135,000 a year for the following two years.When analyzing the project,what amount should be included for net working capital for the last year if the net working capital returns to its original level at that time?

The cash flow tax savings generated as a result of a firm's tax-deductible depreciation expense is called the:

Assume a firm has no interest expense or extraordinary items.Given this,the operating cash flow can be computed as:

The term "tax shield" refers to a reduction in taxes created by:

When is it appropriate to use the equivalent annual cost (EAC)methodology,and how do you make a decision using it?

You plan to bid on a project with a life of 5 years that will require $68,000 of fixed assets.These assets will be depreciated straight-line to zero over the project's life.Ignore bonus depreciation.The relevant discount rate is 12.5 percent,the tax rate is 21 percent,there is no interest expense,net working capital is unaffected,and there is no salvage value.What is the minimal required amount of annual sales revenue given annual cash costs of $47,900?

A company that opts to forego bonus depreciation and instead uses the MACRS system of depreciation:

In working on a bid project,you have determined that $318,000 of fixed assets are required.These assets will be depreciated straight-line to zero over the 6-year life of the project.Ignore bonus depreciation.The discount rate is 18 percent,the tax rate is 21 percent,and there is no interest expense.In addition,the annual cash costs will be $198,200.After considering all the project's other cash flows,you have determined that the required operating cash flow is $92,400.What is the required amount of annual sales revenue?

The changes in a firm's future cash flows that are a direct consequence of accepting a project are called ________ cash flows.

All of the following are anticipated effects of a proposed project.Which of these should be considered when computing the cash flow for the final year of the project?

If Lew's Steel Forms purchases $618,000 of new equipment,they can lower annual operating costs by $265,000.The equipment will be depreciated straight-line to a zero book value over its 3-year life.Ignore bonus depreciation.At the end of the three years,the equipment will be sold for an estimated $60,000.The equipment will require the company to hold an extra $23,000 of inventory over the 3-year period.What is the NPV if the discount rate is 14 percent and the tax rate is 21 percent?

Wheels and More needs to maintain 8 percent of its sales in net working capital.The firm is considering a 5-year project which will increase sales from their current level of $110,000 to $146,000,$152,000,$158,000,$164,000,and $155,000 for Years 1 to 5 of the project,respectively.What amount should be included in the project analysis cash flows for net working capital for Year 3 of the project?

You are working on a bid for a contract.Thus far,you have determined that you will need $156,000 for fixed assets and another $32,000 for net working capital at Time 0.You have also determined that you can recover $68,400 aftertax for the combined fixed assets and net working capital at the end of the 4-year project.What operating cash flow will be required each year for the project to return 16 percent in nominal terms?

Lee's Furniture just purchased $24,000 of fixed assets that are classified as 5-year MACRS property.The MACRS rates are 20 percent,32 percent,19.2 percent,11.52 percent,11.52 percent,and 5.76 percent for Years 1 to 6,respectively.What is the amount of the depreciation expense for the third year if the firm applies the new bonus method of depreciation?