Samantha Shiells, a new associate at Hansen Partners, has compiled the following data for a potential venture:
Investment: $ 200,000
5-year useful life, with no salvage value
Annual sales revenues = $ 100,000
Annual cash costs = $ 42,000
Hansen faces a 20% tax rate on income and knows that the tax authorities will only permit straight-line depreciation for tax purposes. Hansen imposes an after-tax required rate of return of 10%.

1. Based on net present value considerations, is this a project Hansen Partners would want to take?
2. Hansen Partners use straight-line depreciation for internal accounting and measure investment as the net book value of assets at the start of the year. Calculate the residual income in each year if the project were adopted.
3. Demonstrate that the conservation property of residual income, as described on page 883, holds in this example.
4. If Samantha Shiells is evaluated on the residual income of the projects she undertakes, would she take this project? Explain.

  • CreatedMay 14, 2014
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