Crane Company management is considering a project that will require an initial investment of $54,000 and will last for10 years. No other capital expenditures or increases in working capital are anticipated during the life of the project. Whatis the annual EBIT that will make the project economically viable if the cost of capital for the project is 10 percent and thefirm will depreciate the investment using straight-line depreciation and a salvage value of $0? Assume that themarginal tax rate is 24 percent. (Do not round intermediate calculations. Round factor values to 6 decimal places, e.g.11.111111 and final answer to 0 decimal places, e. g. 5,275.)

Capital budgeting is the process where the feasibility of long-term asset purchase is assessed using…

Answered: Crane Company management is considering…

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter9: Capital Budgeting And Cash Flow Analysis

Section: Chapter Questions

Problem 11P

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Friedman Company is considering installing a new IT system. The cost of the new system is estimated to be 2,250,000, but it would produce after-tax savings of 450,000 per year in labor costs. The estimated life of the new system is 10 years, with no salvage value expected. Intrigued by the possibility of saving 450,000 per year and having a more reliable information system, the president of Friedman has asked for an analysis of the projects economic viability. All capital projects are required to earn at least the firms cost of capital, which is 12 percent. Required: 1. Calculate the projects internal rate of return. Should the company acquire the new IT system? 2. Suppose that savings are less than claimed. Calculate the minimum annual cash savings that must be realized for the project to earn a rate equal to the firms cost of capital. Comment on the safety margin that exists, if any. 3. Suppose that the life of the IT system is overestimated by two years. Repeat Requirements 1 and 2 under this assumption. Comment on the usefulness of this information.
Dauten is offered a replacement machine which has a cost of 8,000, an estimated useful life of 6 years, and an estimated salvage value of 800. The replacement machine is eligible for 100% bonus depreciation at the time of purchase- The replacement machine would permit an output expansion, so sales would rise by 1,000 per year; even so, the new machines much greater efficiency would cause operating expenses to decline by 1,500 per year The new machine would require that inventories be increased by 2,000, but accounts payable would simultaneously increase by 500. Dautens marginal federal-plus-state tax rate is 25%, and its WACC is 11%. Should it replace the old machine?
The Scampini Supplies Company recently purchased a new delivery truck. The new truck cost $22,500, and it is expected to generate net after-tax operating cash flows, including depreciation, of $6,250 per year. The truck has a 5-year expected life. The expected salvage values after tax adjustments for the truck are given here. The company’s cost of capital is 10%. Should the firm operate the truck until the end of its 5-year physical life? If not, then what is its optimal economic life? Would the introduction of salvage values, in addition to operating cash flows, ever reduce the expected NPV and/or IRR of a project?
The Rodriguez Company is considering an average-risk investment in a mineral water spring project that has an initial after-tax cost of 170,000. The project will produce 1,000 cases of mineral water per year indefinitely, starting at Year 1. The Year-1 sales price will be 138 per case, and the Year-1 cost per case will be 105. The firm is taxed at a rate of 25%. Both prices and costs are expected to rise after Year 1 at a rate of 6% per year due to inflation. The firm uses only equity, and it has a cost of capital of 15%. Assume that cash flows consist only of after-tax profits because the spring has an indefinite life and will not be depreciated. a. What is the present value of future cash flows? (Hint: The project is a growing perpetuity, so you must use the constant growth formula to find its NPV.) What is the NPV? b. Suppose that the company had forgotten to include future inflation. What would they have incorrectly calculated as the projects NPV?
Wendys boss wants to use straight-line depreciation for the new expansion project because he said it will give higher net income in earlier years and give him a larger bonus. The project will last 4 years and requires 1,700,000 of equipment. The company could use either straight line or the 3-year MACRS accelerated method. Under straight-line depreciation, the cost of the equipment would be depreciated evenly over its 4-year life. (Ignore the half-year convention for the straight-line method.) The applicable MACRS depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%, as discussed in Appendix 11A. The project cost of capital is 10%, and its tax rate is 25%. a. What would the depreciation expense be each year under each method? b. Which depreciation method would produce the higher NPV, and how much higher would it be? c. Why might Wendys boss prefer straight-line depreciation?
Staten Corporation is considering two mutually exclusive projects. Both require an initial outlay of 150,000 and will operate for five years. The cash flows associated with these projects are as follows: Statens required rate of return is 10%. Using the net present value method and the present value table provided in Appendix A, which of the following actions would you recommend to Staten? a. Accept Project X and reject Project Y. b. Accept Project Y and reject Project X. c. Accept Projects X and Y. d. Reject Projects X and Y.
Markoff Products is considering two competing projects, but only one will be selected. Project A requires an initial investment of $42,000 and is expected to generate future cash flows of $6,000 for each of the next 50 years. Project B requires an initial investment of $210,000 and will generate $30,000 for each of the next 10 years. If Markoff requires a payback of 8 years or less, which project should it select based on payback periods?
Roberts Company is considering an investment in equipment that is capable of producing more efficiently than the current technology. The outlay required is 2,293,200. The equipment is expected to last five years and will have no salvage value. The expected cash flows associated with the project are as follows: Required: 1. Compute the projects payback period. 2. Compute the projects accounting rate of return. 3. Compute the projects net present value, assuming a required rate of return of 10 percent. 4. Compute the projects internal rate of return.
Although the Chen Company’s milling machine is old, it is still in relatively good working order and would last for another 10 years. It is inefficient compared to modern standards, though, and so the company is considering replacing it. The new milling machine, at a cost of $110,000 delivered and installed, would also last for 10 years and would produce after-tax cash flows (labor savings and depreciation tax savings) of $19,000 per year. It would have zero salvage value at the end of its life. The project cost of capital is 10%, and its marginal tax rate is 25%. Should Chen buy the new machine?
Talbot Industries is considering launching a new product. The new manufacturing equipment will cost $17 million, and production and sales will require an initial $5 million investment in net operating working capital. The company’s tax rate is 25%. What is the initial investment outlay? The company spent and expensed $150,000 on research related to the new product last year. What is the initial investment outlay? Rather than build a new manufacturing facility, the company plans to install the equipment in a building it owns but is not now using. The building could be sold for $1.5 million after taxes and real estate commissions. What is the initial investment outlay?

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