EC5-Capital Budget All of the engineering studies say that tar sand is excellent for use in...
Fantastic news! We've Found the answer you've been seeking!
Question:
Transcribed Image Text:
EC5-Capital Budget "All of the engineering studies say that tar sand is excellent for use in road construction," said Heather Jenkins, chief engineer for Bluffs Mining Company. "With road construction projected to be at peak levels over the next 10 years, now is the time for us to extract and sell the tar sand off of tract 370 in the southern part of the state." "I'm not so sure," replied Leo Lyon, the vice president. "Prices are really soft for tar sand. The best we can hope to get is $7 a ton, and the accounting people say it will cost us at least $3 a ton for utilities, supplies. and selling expenses. That doesn't leave much in the way of contribution margin." "I know we won't get much per ton," replied Heather, "but our studies show that we have 1,735,000 tons of tar sand in the area. I figure we can extract 90,000, 145,000, and 240,000 tons the first three years, respectively, and then the remainder evenly over the next seven years. Even at only $7 a ton, that'll bring a lot of cash flow into the company." "But you're forgetting that we have other costs, too," said Leo. "Fixed costs for salaries, insurance, and so forth, directly associated with the tar sand project would be $450,000 a year. Besides that, we would have to pay out an additional $250,000 at the end of the project for filling and leveling the land. You know how tough those environmental people can get if things don't look right. And all of this doesn't even consider the $800,000 cost of special equipment that we would need or the $75,000 we would have to put up for working capital to carry inventories and accounts receivable. I'm uneasy about the whole idea." "You've got to look at the big picture, Leo. You'll get the working capital back in 10 years when the project is completed. In addition, we can depreciate that equipment and save a bundle in taxes at our 30% tax rate. Besides that, since the equipment would have a 12-year useful life, it would still have some use left when the project was completed. I'm sure we could sell it to someone for at least 5% of its original cost." "All of that sounds fine, Heather, but I'll still bet the project won't provide the 18% after-tax return we require. Let's give all this to accounting and have them do a present value analysis for us." Required 1. Compute the before-tax net cash receipts each year from the extraction and sale of the tar sand. (Do not include the cost of filling and leveling the land in this computation.) 2. Using the data from (1) above and other data from the problem as needed, prepare a net present value analysis to determine whether the company should purchase the equipment and extract the tar sand. Round all dollar amounts to the nearest whole dollar. You may assume that the company as a whole will have a positive taxable income in every year so that a tax benefit would be realized from any operating losses associated with the tar sand project. Also assume that the special equipment belongs in the MACRS seven-year property class. NOTE - In order to receive credit for this problem, both parts must be completed. All computations must be shown and all factors must be listed. The net present value analysis must be shown in the same Report format as demonstrated in class. Failure to follow these instructions shall result in zero credit. EC5-Capital Budget "All of the engineering studies say that tar sand is excellent for use in road construction," said Heather Jenkins, chief engineer for Bluffs Mining Company. "With road construction projected to be at peak levels over the next 10 years, now is the time for us to extract and sell the tar sand off of tract 370 in the southern part of the state." "I'm not so sure," replied Leo Lyon, the vice president. "Prices are really soft for tar sand. The best we can hope to get is $7 a ton, and the accounting people say it will cost us at least $3 a ton for utilities, supplies. and selling expenses. That doesn't leave much in the way of contribution margin." "I know we won't get much per ton," replied Heather, "but our studies show that we have 1,735,000 tons of tar sand in the area. I figure we can extract 90,000, 145,000, and 240,000 tons the first three years, respectively, and then the remainder evenly over the next seven years. Even at only $7 a ton, that'll bring a lot of cash flow into the company." "But you're forgetting that we have other costs, too," said Leo. "Fixed costs for salaries, insurance, and so forth, directly associated with the tar sand project would be $450,000 a year. Besides that, we would have to pay out an additional $250,000 at the end of the project for filling and leveling the land. You know how tough those environmental people can get if things don't look right. And all of this doesn't even consider the $800,000 cost of special equipment that we would need or the $75,000 we would have to put up for working capital to carry inventories and accounts receivable. I'm uneasy about the whole idea." "You've got to look at the big picture, Leo. You'll get the working capital back in 10 years when the project is completed. In addition, we can depreciate that equipment and save a bundle in taxes at our 30% tax rate. Besides that, since the equipment would have a 12-year useful life, it would still have some use left when the project was completed. I'm sure we could sell it to someone for at least 5% of its original cost." "All of that sounds fine, Heather, but I'll still bet the project won't provide the 18% after-tax return we require. Let's give all this to accounting and have them do a present value analysis for us." Required 1. Compute the before-tax net cash receipts each year from the extraction and sale of the tar sand. (Do not include the cost of filling and leveling the land in this computation.) 2. Using the data from (1) above and other data from the problem as needed, prepare a net present value analysis to determine whether the company should purchase the equipment and extract the tar sand. Round all dollar amounts to the nearest whole dollar. You may assume that the company as a whole will have a positive taxable income in every year so that a tax benefit would be realized from any operating losses associated with the tar sand project. Also assume that the special equipment belongs in the MACRS seven-year property class. NOTE - In order to receive credit for this problem, both parts must be completed. All computations must be shown and all factors must be listed. The net present value analysis must be shown in the same Report format as demonstrated in class. Failure to follow these instructions shall result in zero credit.
Expert Answer:
Posted Date:
Students also viewed these accounting questions
-
What are the sources of operational risk? Please explain each source to get full credit. (b) (6 points) How can a bank prepare for the expected (normal) and unexpected operation risk?
-
Question: What as the average weekly safety inventory level of refined sugar from the beginning January 2022 to the end of July 2022? A. 512,465.9691 metric tons per week B. 316,002.1474 metric tons...
-
The following appliances are connected to a single 120 V, 15 A circuit in a kitchen: a 330 W blender, a 1000 W coffeepot, a 150 W coffee grinder, and a 750 W microwave oven. If these are all turned...
-
A researcher wants to investigate the effects of education spending on housing prices, but she only has cross-sectional data. When she performs her regression analysis, she controls for average...
-
Write the shared-buffer example of the chapter in C#.
-
Figure 10-22 depicts the activities performed in the revenue cycle by the Newton Hardware Company. Required 1 Identify the weaknesses in Newton Hardwares revenue cycle. Explain the resulting threat...
-
Robert Gates rounds the corner of the street and smiles when he sees his wife pruning rose bushes in their front yard. He slowly pulls his car into the driveway, turns off the engine, and falls into...
-
The finance manager of Company A recently visited Bank B to check out their hire purchase loan as the company is planning to buy a machinery priced at $201,000. He was offered the following terms for...
-
You have 2 , 5 0 0 shares in Lovely Chinese Herbs Company. Lovely Chinese Herbs willpay $ 2 . 5 dividend per share in Year One and a liquidating dividend of $ 9 3 per share in Year Two. Suppose the...
-
Consider the following matrix of values: x= [53, 3, 1, 74, 36, 44, 69, 89] a) Write a script M-file that displays how many values are lower than 45 using a counter in a for loop. b) Also draw the...
-
A dental organization has $ 7 2 5 , 0 0 0 as an outstanding loan, for which the principal must be paid at the rate of $ 1 5 0 , 0 0 0 for the next 5 years. In the balance sheet, what would be the...
-
Epson produces color cartridges for inkjet printers. Suppose cartridges are sold to mail-order distributors for $5.20 each. Total fixed costs per year are $342,000. Variable cost per unit are $1.85...
-
Dan's Getty operated a gas station/convenience store in Hamden. Matt entered the convenience store and attempted to buy a six pack of beer. The clerk, Dan, refused to sell Matt the beer because he...
-
X (seller) and Y (purchaser) sign a contract to transfer the equity interests in a target company. It is agreed that X shall transfer the equity interests on or before 20 February 2017, and Y shall...
-
A company acquires a natural resource for $1,300,000 and spends another $510.000 on development of the site and $370,000 for a nonmovable tangible asset installed at the site and $160,000 for...
-
What are the main distinctions between the different schools of legal interpretation?
-
Price discrimination may be a rational strategy for a profit-maximizing monopolist when a. it can separate willingness to pay across customers. b. it has a substantial opportunity for reselling...
-
Which of the following is not true of successful price discriminators? a. They could make greater profits by charging everyone a higher, uniform price. b. Their customers must differ in their...
-
Monopolists are _________ rather than price takers.
Study smarter with the SolutionInn App