OCambridge Business Publishers 4. Income taxes: New Haven has an overall income tax rate of 30%. Income taxes: New Haven has an overall income tax rate of 30%. Chapter 12 Capital Budgeting 517 5. Treasurer's analysis: Average cost of capital (8% + 9% + 10%)/3 = 9% Total cash revenue. Total cash expenses. $2,030,000 Total amortization. $740,000 Total operating expenses . 720,000 Projected net income over five years. 1,460,000 $ 570,000 $ 114,000 $ 443,420 720,000 Average annual income . ... Present value of future returns. Required investment. . .. Negative net present value. . $(276,580) Recommendation: Reject investment because of insufficient net present value. Required Review the treasurer's analysis, identifying any questionable aspects and briefly comment on a. the apparent effect of each such item on the treasurer's analysis. b. Prepare your own analysis of the investment, including a calculation of the proper cost of capital and hurdle rates, a net present value analysis of the project, and a brief recommenda- tion to Decker regarding the investment (round amounts to nearest dollar). asked you to provide analyses supporting whether or not your recommendation would change 1. If estimates of projected cash revenue were reduced by 10%. C. Because of his concern for the uncertainties of the CD recorder business, Decker also has 2. If the "buffer margin" were tripled from 2.5% to 7.5%. f General Company's cutting department, which N 34 5 12-1. Business New an opportunity involving the purchase of a patent that will the to its line of CD recorders. The purchase price is and the legal it will for five more New has to the that the investment be Brad of the it diffi- posal. OUR KNOWLEDGE New Haven's treasurer has recommended to the company s capital budgeting committee cioW, investment be rejected. Brad Decker, chairperson of the capital budgeting committee. findeat the The patent's purchase price is $720,000 and the legal protection it provides will last recorders For this reason, he has retained you to review the treasurer s analysis and recommendation tve. are provided with the following data and summary of the treasurer's analysis: 1. Required investment: $720,000 cash for the patent to be amortized on a straight-line basie five-year useful life, with a zero salvage value. 2. Projected cash revenue and operating expenses: Year Cash Revenue Cash Expenses $ 620,000 $240,000 000'099 000'00, 000'000 250,000 200,000 000'08 $2,030,000 $740,000 3. Source of capital: New Haven plans to raise 10% of the needed capital by issuing bonds, 500 by issuing stock, and the balance from retained earnings. For these sources, the capital cost rates are 8%, 9%, and 10%, respectively. New Haven has a policy of seeking a return cq uncertainties involved.