FIN 571 Week 3 Individual Homework

FIN 571 Week 3 Individual Homework  

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Week 3 Homework & Solutions

Week 3 Individual Homework Submit Through Gradebook In Excel

Proforma Cash Flows

I- The Martinsen Company is considering the purchase of a chemical analysis machine.  Although the machine being considered will not produce any increase in sales revenues, it will result in before tax the reduction of labor costs by $35,000 per year.  The machine has a purchase price of $100,000, and it would cost an additional $5,000 to properly install this machine.  In addition, to properly operate this machine, inventory must be increased by $5,000.  This machine has an expected life of 10 years, after which it will have no salvage value.  Also, assume simplified straight line depreciation and that this machine is being depreciated down to zero, a 34 percent marginal tax rate, and a required rate of return of 15 percent.

1. What is the initial outlay associated with this project?
2. What are the annual after tax cash flows associated with this project, for years 1thru 9.
3. What is the terminal cash flow in year 10.
4. Should the machine be purchased? Ie Calculate NPV, IRR, MIRR CPI & Discounted Payback

2. NPV/IRR. A new computer system will require an initial outlay of $20,000 but it will increase the firm’s cash flows by $4,000 a year for each of the next 8 years. Is the system worth installing if the required rate of return is 9 percent? What if it is 14 percent?  How high can the discount rate be before you would reject the project?

3. Proforma Cash Flows & Valuation. The Gordon Company is considering starting up a new business line of paint.  The equipment required to produce the paint will cost $1,600,000.  It will cost an additional $200,000 to ship, install and prepare the equipment for operation.  The cost of materials in permanent working capital amount to $320,000.  They anticipate training expenditures of $30,000 that must be paid prior to operating the equipment.  Marketing representatives say that the company should be able to produce and sell $1,200,000 per year.  The cost of goods sold are anticipated to be 30% of sales.  Incremental labor costs are $90,000 per year, maintenance costs are $25,000 per year and incremental overheads are anticipated to be $50,000.  You must calculate depreciation.  Miscellaneous costs aside from depreciation are $42,000 per year.  This project has a life of 10 years and they estimate salvage value of the equipment at $160,000.  The cost of capital for Gordon is normally 10% but this particular project is out of their normal expertise and they would like to add a 3% risk premium.  The corporate tax rate for Gordon is 30%.

• Determine Cash Flows
• Determine NPV, CPI, IRR, MIRR, DPBK
• Interpret your findings.

4- Find the Economic Order Quantity given the following:

The Carry Company is a Midsized ATV dealer in the West.  He sells about 2,400 ATV’s a year. The cost of placing an order with its supplier is $600, the inventory carrying costs are $100 for each ATV, and the safety stock is 10 ATV’s.   What is the Economic Order Quantity?

5- Find the Effective Annual Interest Rate given the following:

Max Payne is running a small business and is considering offering the following trade terms to free up cash:  2/10 net 40.  What is the effective annual rate his customers will pay if they do not take the discount?

Answers To Week 3 Problems

1. Martinsen Solution

Answer:

Machine Cost    $100,000

Installation        $5,000

Inventory                       $5,000

Total     $110,000

Depreciation is $105,000/10=$10,500

Proforma

Revenue                                   $35,000

Expenses

Depreciation                             $10,500

Net Income                               $24,500

Taxes @ 34%                            $8,330

NIAT                                         $16,170

Depreciation                             $10,500

Cash Flow                                 $26,670

                        0                      1          Thru        9                   10

Cash Flows          ($110,000)          $26,670                     $26,670    $31,670

Terminal Value is $26,670 Plus $5,000 Inventory = $31,670

NPV=$25,087

IRR = 20.69

CPI = 1.23

2. NPV9% =  $2139.28

NPV14% =           = –$1,444.54

The IRR is 11.81%. To confirm this on your calculator, set PV = (-)20,000; PMT = 4000; FV = 0; n = 8, and compute i. The project will be rejected for any discount rate above this rate.

Problem 3

PV	$2,824,647.80
NPV	$683,647.80
CPI	1.32
IRR	20%
MIRR	16%
DPBK	6.71564524

Problem 4

Economic Order Quantity = 169.7

Problem 5

EAR =45%