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principles managerial finance
Principles Of Managerial Finance Study Guide 10th Edition Gitman - Solutions
10–15 Capital rationing—IRR and NPV approaches Valley Corporation is attempting to select the best of a group of independent projects competing for the firm’s fixed capital budget of $4.5 million. The firm recognizes that any unused portion of this budget will earn less than its 15% cost of
10–14 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
10–13 Unequal lives—ANPV approach JBL Co. has designed a new conveyor system.Management must choose among three alternative courses of action: (1) The firm can sell the design outright to another corporation with payment over 2 years. (2) It can license the design to another manufacturer for a
10–12 Unequal lives—ANPV approach Portland Products is considering the purchase of one of three mutually exclusive projects for increasing production efficiency.The firm plans to use a 14% cost of capital to evaluate these equal-risk projects.The initial investment and annual cash inflows over
10–11 Unequal lives—ANPV approach Evans Industries wishes to select the best of three possible machines, each of which is expected to satisfy the firm’s ongoing need for additional aluminum-extrusion capacity. The three machines—A, B, and C—are equally risky. The firm plans to use a 12%
10–10 Risk classes and RADR Moses Manufacturing is attempting to select the best of three mutually exclusive projects, X, Y, and Z. Though all the projects have 5-year lives, they possess differing degrees of risk. Project X is in class V, the highest-risk class; project Y is in class II, the
10–9 Risk-adjusted rates of return using CAPM Centennial Catering, Inc., is considering two mutually exclusive investments. The company wishes to use a riskadjusted rate of return in its analysis. Centennial’s cost of capital (similar to the market return in CAPM) is 12%, and the current
10–8 Risk-adjusted discount rates—Tabular After a careful evaluation of investment alternatives and opportunities, Masters School Supplies has developed a CAPMtype relationship linking a risk index to the required return (RADR), as shown in the following table.The firm is considering two
10–7 Risk-adjusted discount rates—Basic Country Wallpapers is considering investing in one of three mutually exclusive projects, E, F, and G. The firm’s cost of capital, k, is 15%, and the risk-free rate, RF, is 10%. The firm has gathered the following basic cash flow and risk index data for
10–6 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
10–5 Sensitivity analysis James Secretarial Services is considering the purchase of one of two new personal computers, P and Q. Both are expected to provide benefits over a 10-year period, and each has a required investment of $3,000. The firm uses a 10% cost of capital. Management has
10–4 Basic sensitivity analysis Murdock Paints is in the process of evaluating two mutually exclusive additions to its processing capacity. The firm’s financial analysts have developed pessimistic, most likely, and optimistic estimates of the annual cash inflows associated with each project.
10–3 Breakeven cash inflows and risk Pueblo Enterprises is considering investing in either of two mutually exclusive projects, X and Y. Project X requires an initial investment of $30,000; project Y requires $40,000. Each project’s cash inflows are 5-year annuities; project X’s inflows are
10–2 Breakeven cash inflows Etsitty Arts, Inc., a leading producer of fine cast silver jewelry, is considering the purchase of new casting equipment that will allow it to expand the product line into award plaques. The proposed initial investment is $35,000. The company expects that the equipment
10–1 Recognizing risk Caradine Corp., a media services firm with net earnings of$3,200,000 in the last year, is considering several projects.The media services business is cyclical and highly competitive. The board of directors has asked you, as chief financial officer, toa. Evaluate the risk of
ST 10–1 Risk-adjusted discount rates CBA Company is considering two mutually exclusive projects, A and B. The following table shows the CAPM-type relationship between a risk index and the required return (RADR) applicable to CBA Company.Project data are shown as follows:a. Ignoring any
10–12 Compare and contrast the internal rate of return approach and the net present value approach to capital rationing. Which is better? Why?
10–11 What is capital rationing? In theory, should capital rationing exist? Why does it frequently occur in practice?
10–10 What is the difference between the strategic NPV and the traditional NPV? Do they always result in the same accept–reject decisions?
10–9 What are real options? What are some major types of real options?
10–8 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.
10–7 How are risk classes often used to apply RADRs?
10–6 Explain why a firm whose stock is actively traded in the securities markets need not concern itself with diversification. In spite of this, how is the risk of capital budgeting projects frequently measured? Why?
10–5 Describe the basic procedures involved in using risk-adjusted discount rates (RADRs). How is this approach related to the capital asset pricing model (CAPM)?
10-3 Describe how each of the following behavioral approaches can be used to deal with project risk: (a) sensitivity analysis, (b) scenario analysis, and (c) simulation.
10-2 Define risk in terms of the cash inflows from a capital budgeting project. How can determination of the breakeven cash inflow be used to gauge project risk?
10–1 Are most mutually exclusive capital budgeting projects equally risky?How can the acceptance of a project change a firm’s overall risk?
1-1 Go to the Web site www.arachnoid.com/lutusp/finance_old.html. Page down to the portion of this screen that contains the financial calculator.1. To determine the internal rate of return (IRR) of a project whose initial investment was $5,000 and whose cash inflows are $1,000 per year for the next
9-1 Norwich Tool, a large machine shop, is considering replacing one of its lathes with either of two new lathes—lathe A or lathe B. Lathe A is a highly automated, computer-controlled lathe; lathe B is a less expensive lathe that uses standard technology. To analyze these alternatives, Mario
9–22 Integrative—Investment decision Holliday Manufacturing is considering the replacement of an existing machine. The new machine costs $1.2 million and requires installation costs of $150,000. The existing machine can be sold currently for $185,000 before taxes. It is 2 years old, cost
9–21 Integrative—Complete investment decision Wells Printing is considering the purchase of a new printing press. The total installed cost of the press is $2.2 million. This outlay would be partially offset by the sale of an existing press.The old press has zero book value, cost $1 million 10
9–20 All techniques with NPV profile—Mutually exclusive projects Projects A and B, of equal risk, are alternatives for expanding the Rosa Company’s capacity.The firm’s cost of capital is 13%. The cash flows for each project are shown in the following table.a. Calculate each project’s
9–19 All techniques—Decision among mutually exclusive investments Pound Industries is attempting to select the best of three mutually exclusive projects. The initial investment and after-tax cash inflows associated with these projects are shown in the following table.a. Calculate the payback
9–18 NPV, IRR, and NPV profiles Thomas Company is considering two mutually exclusive projects. The firm, which has a 12% cost of capital, has estimated its cash flows as shown in the following table.a. Calculate the NPV of each project, and assess its acceptability.b. Calculate the IRR for each
9–17 Payback, NPV, and IRR Rieger International is attempting to evaluate the feasibility of investing $95,000 in a piece of equipment that has a 5-year life. The firm has estimated the cash inflows associated with the proposal as shown in the following table. The firm has a 12% cost of
9–16 All techniques, conflicting rankings Nicholson Roofing Materials, Inc., is considering two mutually exclusive projects, each with an initial investment of$150,000. The company’s board of directors has set a 4-year payback requirement and has set its cost of capital at 9%. The cash inflows
9–15 NPV, with rankings Botany Bay, Inc., a maker of casual clothing, is considering four projects. Because of past financial difficulties, the company has a high cost of capital at 15%. Which of these projects would be acceptable under those cost circumstances?a. Calculate the NPV of each
9–14 NPV and IRR Benson Designs has prepared the following estimates for a longterm project it is considering. The initial investment is $18,250, and the project is expected to yield after-tax cash inflows of $4,000 per year for 7 years. The firm has a 10% cost of capital.a. Determine the net
9–13 IRR, investment life, and cash inflows Oak Enterprises accepts projects earning more than the firm’s 15% cost of capital. Oak is currently considering a 10-year project that provides annual cash inflows of $10,000 and requires an initial investment of $61,450. (Note: All amounts are after
9–12 IRR—Mutually exclusive projects Bell Manufacturing is attempting to choose the better of two mutually exclusive projects for expanding the firm’s warehouse capacity. The relevant cash flows for the projects are shown in the following table. The firm’s cost of capital is 15%.a.
9–11 Internal rate of return For each of the projects shown in the following table, calculate the internal rate of return (IRR). Then indicate, for each project, the maximum cost of capital that the firm could have and still find the IRR acceptable. Project A Project B Project C Project D Initial
9–10 Payback and NPV Neil Corporation has three projects under consideration.The cash flows for each of them are shown in the following table. The firm has a 16% cost of capital.a. Calculate each project’s payback period. Which project is preferred according to this method?b. Calculate each
9–9 NPV—Mutually exclusive projects Hook Industries is considering the replacement of one of its old drill presses. Three alternative replacement presses are under consideration. The relevant cash flows associated with each are shown in the following table. The firm’s cost of capital is
9–8 NPV and maximum return A firm can purchase a fixed asset for a $13,000 initial investment. The asset generates an annual after-tax cash inflow of $4,000 for 4 years.a. Determine the net present value (NPV) of the asset, assuming that the firm has a 10% cost of capital. Is the project
9–7 NPV Simes Innovations, Inc., is negotiating to purchase exclusive rights to manufacture and market a solar-powered toy car. The car’s inventor has offered Simes the choice of either a one-time payment of $1,500,000 today or a series of 5 year-end payments of $385,000.a. If Simes has a cost
9–6 Net present value—Independent projects Using a 14% cost of capital, calculate the net present value for each of the independent projects shown in the following table, and indicate whether each is acceptable. Project A Project B Project C Project D Project E Initial investment (CFO) $26,000
9–5 NPV for varying costs of capital Dane Cosmetics is evaluating a new fragrance-mixing machine. The machine requires an initial investment of$24,000 and will generate after-tax cash inflows of $5,000 per year for 8 years. For each of the costs of capital listed, (1) calculate the net present
9–4 NPV Calculate the net present value (NPV) for the following 20-year projects.Comment on the acceptability of each. Assume that the firm has an opportunity cost of 14%.a. Initial investment is $10,000; cash inflows are $2,000 per year.b. Initial investment is $25,000; cash inflows are $3,000
9–3 Choosing between two projects with acceptable payback periods Shell Camping Gear, Inc., is considering two mutually exclusive projects. Each requires an initial investment of $100,000. John Shell, president of the company, has set a maximum payback period of 4 years. The after-tax cash
9–2 Payback comparisons Nova Products has a 5-year maximum acceptable payback period. The firm is considering the purchase of a new machine and must choose between two alternative ones. The first machine requires an initial investment of $14,000 and generates annual after-tax cash inflows of
9–1 Payback period Jordan Enterprises is considering a capital expenditure that requires an initial investment of $42,000 and returns after-tax cash inflows of$7,000 per year for 10 years. The firm has a maximum acceptable payback period of 8 years.a. Determine the payback period for this
ST 9–1 All techniques with NPV profile—Mutually exclusive projects Fitch Industries is in the process of choosing the better of two equal-risk, mutually exclusive capital expenditure projects—M and N. The relevant cash flows for each project are shown in the following table. The firm’s cost
9–10 Does the assumption concerning the reinvestment of intermediate cash inflow tend to favor NPV or IRR? In practice, which technique is preferred and why?
9–9 How is a net present value profile used to compare projects? What causes conflicts in the ranking of projects via net present value and internal rate of return?
9–8 Do the net present value (NPV) and internal rate of return (IRR) always agree with respect to accept–reject decisions? With respect to ranking decisions?Explain.
9–7 What are the acceptance criteria for IRR? How are they related to the firm’s market value?
9–6 What is the internal rate of return (IRR) on an investment? How is it determined?
9–5 What are the acceptance criteria for NPV? How are they related to the firm’s market value?
9–4 How is the net present value (NPV) calculated for a project with a conventional cash flow pattern?
9–3 What weaknesses are commonly associated with the use of the payback period to evaluate a proposed investment?
9–2 What is the payback period? How is it calculated?
9–1 Once the firm has determined its projects’ relevant cash flows, what must it do next? What is its goal in selecting projects?
1. Go to the Web site www.reportgallery.com. Click on Reports, at the top of the page, navigate to the listing for Intel Corp., and click on Annual Report. This takes you to an investor relations page; select the most recent annual report.Answer the following questions using information in various
8-1 Bo Humphries, chief financial officer of Clark Upholstery Company, expects the firm’s net profits after taxes for the next 5 years to be as shown in the following table.Bo is beginning to develop the relevant cash flows needed to analyze whether to renew or replace Clark’s only depreciable
8–25 Integrative—Determining relevant cash flows Atlantic Drydock is considering replacing an existing hoist with one of two newer, more efficient pieces of equipment.The existing hoist is 3 years old, cost $32,000, and is being depreciated under MACRS using a 5-year recovery period. Although
8–24 Integrative—Determining relevant cash flows Lombard Company is contemplating the purchase of a new high-speed widget grinder to replace the existing grinder. The existing grinder was purchased 2 years ago at an installed cost of$60,000; it was being depreciated under MACRS using a 5-year
8–23 Relevant cash flows—No terminal value Central Laundry and Cleaners is considering replacing an existing piece of machinery with a more sophisticated machine. The old machine was purchased 3 years ago at a cost of $50,000, and this amount was being depreciated under MACRS using a 5-year
8–22 Relevant cash flows for a marketing campaign Marcus Tube, a manufacturer of high-quality aluminum tubing, has maintained stable sales and profits over the past 10 years. Although the market for aluminum tubing has been expanding by 3% per year, Marcus has been unsuccessful in sharing this
8–21 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
8–20 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 support
8–19 Determining operating cash inflows Scenic Tours, Inc., is a provider of bus tours throughout the New England area. The corporation is considering the replacement of 10 of its older buses. The existing buses were purchased 4 years ago at a total cost of $2,700,000 and are being depreciated
8–18 Incremental operating cash inflows Strong Tool Company has been considering purchasing a new lathe to replace a fully depreciated lathe that will last 5 more years. The new lathe is expected to have a 5-year life and depreciation charges of $2,000 in year 1; $3,200 in year 2; $1,900 in year
8–17 Incremental operating cash inflows—Expense reduction Miller Corporation is considering replacing a machine. The replacement will reduce operating expenses (that is, increase revenues) by $16,000 per year for each of the 5 years the new machine is expected to last. Although the old machine
8–16 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 5-year
8–15 Depreciation A firm is evaluating the acquisition of an asset that costs$64,000 and requires $4,000 in installation costs. If the firm depreciates the asset under MACRS, using a 5-year recovery period (see Table 3.2 on page 100 for the applicable depreciation percentages), determine the
8–14 Calculating initial investment DuPree Coffee Roasters, Inc., wishes to expand and modernize its facilities. The installed cost of a proposed computer-controlled automatic-feed roaster will be $130,000. The firm has a chance to sell its 4-yearold roaster for $35,000. The existing roaster
8–13 Initial investment at various sale prices Edwards Manufacturing Company is considering replacing one machine with another. The old machine was pur-chased 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 Table
8–12 Initial investment—Basic calculation Cushing Corporation is considering the purchase of a new grading machine to replace the existing one. The existing machine was purchased 3 years ago at an installed cost of $20,000; it was being depreciated under MACRS using a 5-year recovery period.
8–11 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 3.2, page
8–10 Change in net working capital calculation Samuels Manufacturing is considering the purchase of a new machine to replace one they feel is obsolete. The firm has total current assets of $920,000 and total current liabilities of $640,000. As a result of the proposed replacement, the following
8–9 Tax calculations For each of the following cases, describe the various taxable components of the funds received through sale of the asset, and determine the total taxes resulting from the transaction. Assume 40% ordinary and capital gains tax rates. The asset was purchased 2 years ago for
8–8 Book value and taxes on sale of assets Troy Industries purchased a new machine 3 years ago for $80,000. It is being depreciated under MACRS with a 5-year recovery period using the percentages given in Table 3.2 on page 100.Assume 40% ordinary and capital gains tax rates.a. What is the book
8–7 Book value Find the book value for each of the assets shown in the following table, assuming that MACRS depreciation is being used. (Note: See Table 3.2 on page 100 for the applicable depreciation percentages.) Recovery period Elapsed time since purchase (years) Asset Installed cost (years)
8–6 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
8–5 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. In order to begin manufacturing them, the company will have to invest $1,800,000 in new equipment. The new clubs are
8–4 Expansion versus replacement cash flows Edison Systems has estimated the cash flows over the 5-year lives for two projects, A and B. These cash flows are summarized in the following table.a. If project A were actually a replacement for project B and if the $12,000 initial investment shown for
8–3 Relevant cash flow pattern fundamentals For each of the following projects, determine the relevant cash flows, classify the cash flow pattern, 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
8–2 Basic terminology A firm is considering the following three separate situations.Situation A Build either a small office building or a convenience store on a parcel of land located in a high-traffic area. Adequate funding is available, and both projects are known to be acceptable. The office
8–1 Classification of expenditures Given the following list of outlays, indicate whether each is normally considered a capital or an operating expenditure.Explain your answers.a. An initial lease payment of $5,000 for electronic point-of-sale cash register systems.b. An outlay of $20,000 to
ST 8–2 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
ST 8–1 Book value, taxes, and initial investment Irvin Enterprises is considering the purchase of a new piece of equipment to replace the current equipment. The new equipment costs $75,000 and requires $5,000 in installation costs. It will be depreciated under MACRS using a 5-year recovery
8–16 Diagram and describe the three components of the relevant cash flows for a capital budgeting project.
8–15 Explain how the terminal cash flow is calculated for replacement projects.
8–14 How are the incremental (relevant) operating cash inflows that are associated with a replacement decision calculated?
8–13 How does depreciation enter into the calculation of operating cash inflows?
8–12 Referring to the basic format for calculating initial investment, explain how a firm would determine the depreciable value of the new asset.
8–11 What four tax situations may result from the sale of an asset that is being replaced?
8–10 How is the book value of an asset calculated? What are the three key forms of taxable income?
8–9 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.
8–8 How can currency risk and political risk be minimized when one is making foreign direct investment?
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