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principles managerial finance

Principles Of Managerial Finance 7th Edition Lawrence J Gitman, Chad J Zutter - Solutions

E4–4 During the year, Xero, Inc., experienced an increase in net fixed assets of $300,000 and had depreciation of $200,000. It also experienced an increase in current assets of $150,000 and an increase in accounts payable and accruals of $75,000. If operating cash flow (OCF)for the year was
E4–3 Determine the operating cash flow (OCF) for Kleczka, Inc., based on the following data. (All values are in thousands of dollars.) During the year the firm had sales of$2,500, cost of goods sold totaled $1,800, operating expenses totaled $300, and depreciation expenses were $200. The firm is
E4–2 Classify the following changes in each of the accounts as either an inflow or an outflow of cash. During the year (a) marketable securities increased, (b) land and buildings decreased, (c) accounts payable increased, (d) vehicles decreased, (e) accounts receivable increased, and (f)
E4–1 The installed cost of a new computerized controller was $65,000. Calculate the depreciation schedule by year assuming a recovery period of 5 years and using the appropriate MACRS depreciation percentages given in Table 4.2 on page 112.
4–20 What is the financial manager’s objective in evaluating pro forma statements?
4–19 What are the two basic weaknesses of the simplified approaches to preparing pro forma statements?
4–18 What is the significance of the “plug” figure, external financing required? Differentiate between strategies associated with positive values and with negative values for external financing required.
4–17 Describe the judgmental approach for simplified preparation of the pro forma balance sheet.
4–16 Why does the presence of fixed costs cause the percent-of-sales method of pro forma income statement preparation to fail? What is a better method?
4–15 How is the percent-of-sales method used to prepare pro forma income statements?
4–14 What is the purpose of pro forma statements? What inputs are required for preparing them using the simplified approaches?
4–13 What is the cause of uncertainty in the cash budget, and what two techniques can be used to cope with this uncertainty?
4–12 How can the two “bottom lines” of the cash budget be used to determine the firm’s short-term borrowing and investment requirements?
4–11 Briefly describe the basic format of the cash budget.
4–10 What is the purpose of the cash budget? What role does the sales forecast play in its preparation?
4–9 Which three statements result as part of the short-term (operating)financial planning process?
4–8 What is the financial planning process? Contrast long-term (strategic)financial plans and short-term (operating) financial plans.
4–7 From a strict financial perspective, define and differentiate between a firm’s operating cash flow (OCF) and its free cash flow (FCF).
4–6 Why do we exclude interest expense and taxes from operating cash flow?
4–5 Describe the general format of the statement of cash flows. How are cash inflows differentiated from cash outflows on this statement?
4–4 Why is depreciation (as well as amortization and depletion) considered a noncash charge?
4–3 Explain why a decrease in cash is classified as a cash inflow (source) and why an increase in cash is classified as a cash outflow (use) in preparing the statement of cash flows.
4–2 Describe the overall cash flow through the firm in terms of cash flow from operating activities, cash flow from investment activities, and cash flow from financing activities.
4–1 Briefly describe the first four modified accelerated cost recovery system(MACRS) property classes and recovery periods. Explain how the depreciation percentages are determined by using the MACRS recovery periods.
LG 6 Evaluate the simplified approaches to pro forma financial statement preparation and the common uses of pro forma statements.
LG 5 Explain the simplified procedures used to prepare and evaluate the pro forma income statement and the pro forma balance sheet.
LG 4 Discuss the cash-planning process and the preparation, evaluation, and use of the cash budget.
LG 3 Understand the financial planning process, including long-term(strategic) financial plans and short-term (operating)financial plans.
LG 2 Discuss the firm’s statement of cash flows, operating cash flow, and free cash flow.
LG 1 Understand tax depreciation procedures and the effect of depreciation on the firm’s cash flows.
P11–35 ETHICS PROBLEM The Environmental Protection Agency sometimes imposes penalties on firms that pollute the environment (see the Focus on Ethics box on page 000).But did you know that there is a legal market for pollution? A mechanism that has been developed to limit excessive air pollution
P11–32 Real options and the strategic NPV Jenny Rene, the CFO of Asor Products, Inc., has just completed an evaluation of a proposed capital expenditure for equipment that would expand the firm’s manufacturing capacity. Using the traditional NPV methodology, she found the project unacceptable
P11–31 NPV and ANPV decisions Richard and Linda Butler decide that it is time to purchase a high-definition (HD) television because the technology has improved and prices have fallen over the past 3 years. From their research, they narrow their choices to two sets, the Samsung 64-inch plasma with
P11–26 Mutually exclusive investments and risk Lara Fredericks is interested in two mutually exclusive investments. Both investments cover the same time horizon of 6 years.The cost of the first investment is $10,000, and Lara expects equal and consecutive year-end payments of $3,000. The second
P11–23 Simulation Ogden Corporation has compiled the following information on a capital expenditure proposal:1. The projected cash inflows are normally distributed with a mean of $36,000 and a standard deviation of $9,000.2. The projected cash outflows are normally distributed with a mean of
P11–22 Impact of inflation on investments You are interested in an investment project that costs $40,000 initially. The investment has a 5-year horizon and promises future endof-year cash inflows of $12,000, $12,500, $11,500, $9,000, and $8,500, respectively.Your current opportunity cost is 6.5%
P11–15 Terminal cash flow: Replacement decision Russell Industries is considering replacing a fully depreciated machine that has a remaining useful life of 10 years with a newer, more sophisticated machine. The new machine will cost $200,000 and will require $30,000 in installation costs. It will
P11–14 Terminal cash flow: Various lives and sale prices Looner Industries is currently analyzing the purchase of a new machine that costs $160,000 and requires $20,000 in installation costs. Purchase of this machine is expected to result in an increase in net working capital of $30,000 to
P11–12 Incremental operating cash flows Richard and Linda Thomson operate a local lawn maintenance service for commercial and residential property. They have been using a John Deere riding mower for the past several years and believe that it is time to buy a new one. They would like to know the
P11–11 Incremental operating cash inflows A firm is considering renewing its equipment to meet increased demand for its product. The cost of equipment modifications is $1.9 million plus $100,000 in installation costs. The firm will depreciate the equipment modifications under MACRS, using a
P11–9 Initial investment at various sale prices Edwards Manufacturing Company (EMC)is considering replacing one machine with another. The old machine was purchased 3 years ago for an installed cost of $10,000. The firm is depreciating the machine under MACRS, using a 5-year recovery period. (See
P11–8 Calculating initial investment Vastine Medical, Inc., is considering replacing its existing computer system, which was purchased 2 years ago at a cost of $325,000. The system can be sold today for $200,000. It is being depreciated using MACRS and a 5-year recovery period (see Table 4.2,
P11–5 Sunk and opportunity cash flows Dave and Ann Stone have been living at their present home for the past 6 years. During that time, they have replaced the water heater for $375, have replaced the dishwasher for $599, and have had to make miscellaneous repair and maintenance expenditures of
P11–4 Sunk costs and opportunity costs Covol Industries is developing the relevant cash flows associated with the proposed replacement of an existing machine tool with a new, technologically advanced one. Given the following costs related to the proposed project, explain whether each would be
P11–3 Sunk costs and opportunity costs Masters Golf Products, Inc., spent 3 years and$1,000,000 to develop its new line of club heads to replace a line that is becoming obsolete. To begin manufacturing them, the company will have to invest $1,800,000 in new equipment. The new clubs are expected
P11–1 Relevant cash flow and timeline depiction For each of the following projects, determine the relevant cash flows, and depict the cash flows on a time line.a. A project that requires an initial investment of $120,000 and will generate annual operating cash inflows of $25,000 for the next 18
E11–3 A few years ago, Largo Industries implemented an inventory auditing system at an installed cost of $175,000. Since then, it has taken depreciation deductions totaling$124,250. What is the system’s current book value? If Largo sold the system for$110,000, how much recaptured depreciation
E11–2 Canvas Reproductions, Inc., has spent $4,500 dollars researching a new project. The project requires $20,000 worth of new machinery, which would cost $3,000 to install.The company would realize $4,500 in after-tax proceeds from the sale of old machinery. If Canvas’s working capital is
E11–1 Iridium Corp. has spent $3.5 billion over the past decade developing a satellitebased telecommunication system. It is currently trying to decide whether to spend an additional $350 million on the project. The firm expects that this outlay will finish the project and will generate cash flow
ST11–1 Determining relevant cash flows A machine currently in use was originally purchased 2 years ago for $40,000. The machine is being depreciated under MACRS using a 5-year recovery period; it has 3 years of usable life remaining. The current machine can be sold today to net $42,000 after
11–24 Comparing projects with unequal lives is often done by comparing the projects’ annualized net present value. Based on the information provided at MFL, use a spreadsheet to compare projects based on their ANPV.
11–23 Compare and contrast the internal rate of return approach and the net present value approach to capital rationing. Which is better? Why?
11–22 What is capital rationing? In theory, should capital rationing exist? Why does it frequently occur in practice?
11–21 What is the difference between the strategic NPV and the traditional NPV? Do they always result in the same accept–reject decisions?
11–20 What are real options? What are some major types of real options?
11–19 Explain why a mere comparison of the NPVs of unequal-lived, ongoing, mutually exclusive projects is inappropriate. Describe the annualized net present value (ANPV) approach for comparing unequal-lived, mutually exclusive projects.
11–18 How are risk classes often used to apply RADRs?
11–17 Explain why a firm whose stock is actively traded in the securities markets need not concern itself with diversification. Despite this reason, how is the risk of capital budgeting projects frequently measured? Why?
11–16 Describe the basic procedures involved in using risk-adjusted discount rates (RADRs). How is this approach related to the capital asset pricing model (CAPM)?
11–15 To judge the sensitivity of a project’s NPV, financial managers will often compare a project’s forecasted cash inflows to the breakeven cash flows. Based on the information provided at MFL, develop a spreadsheet to compare forecasted and breakeven cash inflows.
11–14 Describe how each of the following behavioral approaches can be used to deal with project risk: (a) scenario analysis and (b) simulation.
11–13 Define risk in terms of the cash flows from a capital budgeting project.How can determination of the breakeven cash inflow be used to gauge project risk?
11–12 Are most mutually exclusive capital budgeting projects equally risky? If you think about a firm as a portfolio of many different kinds of investments, how can the acceptance of a project change a firm’s overall risk?
11–11 Explain how the terminal cash flow is calculated for replacement projects.
11–10 How are the incremental (relevant) operating cash flows that are associated with a replacement decision calculated?
11–9 How does depreciation enter into the calculation of operating cash flows? How does the income statement format in Table 11.6 relate to Equation 4.3 (on page 117) for finding operating cash flow (OCF)?
11–8 Referring to the basic format for calculating initial investment, explain how a firm would determine the depreciable value of the new asset.
11–7 What three tax situations may result from the sale of an asset that is being replaced?
11–6 How is the book value of an asset calculated? What are the two key forms of taxable income?
11–5 Explain how each of the following inputs is used to calculate the initial investment: (a) cost of new asset, (b) installation costs, (c) proceeds from sale of old asset, (d) tax on sale of old asset, and (e) change in net working capital.
11–4 How can currency risk and political risk be minimized when one is making foreign direct investment?
11–3 What effect do sunk costs and opportunity costs have on a project’s incremental cash flows?
11–2 What three components of cash flow may exist for a given project? How can expansion decisions be treated as replacement decisions? Explain.
11–1 Why is it important to evaluate capital budgeting projects on the basis of incremental cash flows?
1.. What would your options be when faced with the demands of an assertive CEO who expects you to “make it work”? Brainstorm several options The process of capital budgeting based on projected cash flows has been a part of the investment decision process for many years. This procedure for
LG 6 Select the best of a group of unequal-lived, mutually exclusive projects using annualized net present values (ANPVs), and explain the role of real options and the objective and procedures for selecting projects under capital rationing.
LG 5 Describe the determination and use of risk-adjusted discount rates (RADRs), portfolio effects, and the practical aspects of RADRs.
LG 4 Understand the importance of recognizing risk in the analysis of capital budgeting projects, and discuss risk and cash flows, scenario analysis, and simulation as behavioral approaches for dealing with risk.
LG 3 Calculate the initial investment, operating cash flows, and terminal cash flow associated with a proposed capital expenditure.
LG 2 Discuss expansion versus replacement decisions, sunk costs, and opportunity costs.
LG 1 Discuss relevant cash flows and the three major cash flow components.
1.. Your company is considering manufacturing protective cases for a popular new smartphone.Management decides to borrow $200,000 from each of two banks, First American and First Citizen. On the day that you visit both banks, the quoted prime interest rate is 7%. Each loan is similar in that each
P15–21 ETHICS PROBLEM Rancco, Inc., reported total sales of $73 million last year, including$13 million in revenue (labor, sales to tax-exempt entities) exempt from sales tax. The company collects sales tax at a rate of 5%. In reviewing its information as part of its loan application, you notice
P15–20 Inventory financing Raymond Manufacturing faces a liquidity crisis: It needs a loan of $100,000 for 1 month. Having no source of additional unsecured borrowing, the firm must find a secured short-term lender. The firm’s accounts receivable are quite low, but its inventory is considered
P15–18 Accounts receivable as collateral, cost of borrowing Maximum Bank has analyzed the accounts receivable of Scientific Software, Inc. The bank has chosen eight accounts totaling $134,000 that it will accept as collateral. The bank’s terms include a lending rate set at prime plus 3% and a
P15–15 Cost of commercial paper Commercial paper is usually sold at a discount. Fan Corporation has just sold an issue of 90-day commercial paper with a face value of$1 million. The firm has received initial proceeds of $978,000. (Note: Assume a 365-day year.)a. What effective annual rate will
P15–14 Integrative: Comparison of loan terms Cumberland Furniture wishes to establish a prearranged borrowing agreement with a local commercial bank. The bank’s terms for a line of credit are 3.30% over the prime rate, and each year the borrowing must be reduced to zero for a 30-day period. For
P15–13 Compensating balance versus discount loan Weathers Catering Supply, Inc., needs to borrow $150,000 for 6 months. State Bank has offered to lend the funds at a 9%annual rate subject to a 10% compensating balance. (Note: Weathers currently maintains $0 on deposit in State Bank.) Frost
P15–12 Compensating balances and effective annual rates Lincoln Industries has a line of credit at Bank Two that requires it to pay 11% interest on its borrowing and to maintain a compensating balance equal to 15% of the amount borrowed. The firm has borrowed $800,000 during the year under the
P15–11 Effective annual rate A financial institution made a $4 million, 1-year discount loan at 6% interest, requiring a compensating balance equal to 5% of the face value of the loan. Determine the effective annual rate associated with this loan.(Note: Assume that the firm currently maintains $0
P15–10 Unsecured sources of short-term loans John Savage has obtained a short-term loan from First Carolina Bank. The loan matures in 180 days and is in the amount of$45,000. John needs the money to cover start-up costs in a new business. He hopes to have sufficient backing from other investors
P15–9 Cost of bank loan Data Back-Up Systems has obtained a $10,000, 90-day bank loan at an annual interest rate of 15%, payable at maturity. (Note: Assume a 365-day year.)a. How much interest (in dollars) will the firm pay on the 90-day loan?b. Find the 90-day rate on the loan.c. Annualize your
P15–8 Spontaneous sources of funds, accruals When Tallman Haberdashery, Inc., merged with Meyers Men’s Suits, Inc., Tallman’s employees were switched from a weekly to a biweekly pay period. Tallman’s weekly payroll amounted to $750,000. The cost of funds for the combined firms is 11%. What
P15–7 Changing payment cycle On accepting the position of chief executive officer and chairman of Muse, Inc., Dominic Howard changed the firm’s weekly payday from Monday afternoon to the following Friday afternoon. The firm’s weekly payroll was $100 million, and the cost of short-term funds
P15–5 Borrow or pay cash for an asset Bob and Carol Gibbs are set to move into their first apartment. They visited Furniture R’Us, looking for a dining room table and buffet.Dining room sets are typically one of the more expensive home furnishing items, and the store offers financing
P15–4 Cash discount versus loan Joanne Germano works in an accounts payable department of a major retailer. She has attempted to convince her boss to take the discount on the 1/15 net 65 credit terms most suppliers offer, but her boss argues that giving up the 1% discount is less costly than a
P15–2 Cost of giving up cash discounts Determine the cost of giving up the cash discount under each of the following terms of sale. (Note: Assume a 365-day year.)a. 2/10 net 30b. 1/10 net 30c. 1/10 net 45d. 3/10 net 90e. 1/10 net 60f. 3/10 net 30 g. 4/10 net 180
P15–1 Payment dates Determine when a firm must pay for purchases made and invoices dated on November 25 under each of the following credit terms:a. net 30 date of invoiceb. net 30 EOMc. net 45 date of invoiced. net 60 EOM
E15–5 Horizon Telecom sold $300,000 worth of 120-day commercial paper for $298,000.What is the dollar amount of interest paid on the commercial paper? What is the effective 120-day rate on the paper?
E15–4 Jackson Industries has borrowed $125,000 under a line-of-credit agreement. Although the company normally maintains a checking account balance of $15,000 in the lending bank, this credit line requires a 20% compensating balance. The stated interest rate on the borrowed funds is 10%. What is

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