Answers Ch 10 Project Cash Flows and Risk

Ch 10 Project Cash Flows and Risk

Answers to Homework Problems

(Please use these answers to check your solutions to assigned problems)

1. a. Initial investment outlay: 9,000,000 + 3,000,000 = $12,000,000

b. For discussion

c. For discussion

2. a. Operating cash flow:

CF1 = (10,000,000 – 7,000,000 – 2,000,000)(1 – 0.4) + 2,000,000 = $2,600,000

b. If this project cannibalize others by $1 million before tax per year

(CF1 = 2,600,000 – [1,000,000 x (1 – 0.4)] = 2,000,000

c. CF1 = (10,000,000 – 7,000,000 – 2,000,000)(1 – 0.3) + 2,000,000 = $2,700,000

3. Book Value = 20,000,000 x (1 – 0.8) = 4,000,000

Net Salvage Value = Cash flow from sales of equipment – tax effect

⇨ (5,000,000 – 4,000,000)(1 – 0.4) + 4,000,000 = $4,600,000.

5. a. Year Straight-line method MACRS Accelerated method

First $200,000 $264,000

Second $200,000 $360,000

Third $200,000 $120,000

Fourth $200,000 $ 56,000

$800,000 $800,000

b. Which method would produce the higher NPV and how much would it be?

7. Homework problem to be turned in at beginning of class ( Hint: Do problem #8 first - which is similar to this problem and is good practice using capital budgeting template).

a. The net cost (cash outlay in t=0) is ?

Base Price + Modification Cost + Increase in NWC= 140,000 + 30,000 + 8,000 = 178,000

b. Operating Cash Flows – Use capital budgeting template (handout) to get following cash flows:

Year 1 Year 2 Year 3

Depreciation (170,000 X %) 56,100 76,500 25,500

Depreciation Tax Saving (40%) 22,440 30,600 10,200

After Tax Cost Saving (50,000 X .6) 30000 30000 30000

Net Operating Cash Flows 52,440 60,600 40.200

c. The terminal cash flow is ?

Remaining BV at year 4 = 170,000 X 0.07 = 11,900

Tax on Salvage Value = (60,000 – 11,900) x 0.4 = (19,240)

Salvage Value...