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Unformatted text preview: FNAN 301, Summer C 2010, quiz 4, solutions Quantitative: NPV of twoyear costcutting project 1. Stadium Cinemas Inc. is considering buying a new, high efficiency air conditioning unit. The new unit would cost $56,000 today. It would be depreciated straightline to $0 over 2 years. In 2 years, the unit would be hauled away for nothing, so the aftertax cash flow from capital spending in year 2 would be $0. The unit is expected to reduce incremental costs by $36,000 in year 1 and by $36,000 in year 2. If the tax rate is 40% and the cost of capital is 8%, what is the net present value of the new air conditioning unit? 1. Stadium Cinemas Inc. is considering buying a new, high efficiency air conditioning unit. The new unit would cost $62,000 today. It would be depreciated straightline to $0 over 2 years. In 2 years, the unit would be hauled away for nothing, so the aftertax cash flow from capital spending in year 2 would be $0. The unit is expected to reduce incremental costs by $42,000 in year 1 and by $42,000 in year 2. If the tax rate is 40% and the cost of capital is 8%, what is the net present value of the new air conditioning unit? 1 FNAN 301, Summer C 2010, quiz 4, solutions Base case NPV of project and NPV with borrowing – 2 questions Overview: The National Auto Company provides services to car owners such as emergency towing and jump starts throughout Ohio. The firm is considering the “Pennsylvania project” which would involve expanding into Pennsylvania. The Pennsylvania project, which would last for 2 years, would involve an initial investment of $300,000 for new equipment that would be hauled away for an aftertax cash flow of $0 at the end of the project in 2 years. In other words, after taking any relevant taxes into account, the cash flows from capital spending associated with the sale of the equipment in 2 years would be $0. The equipment would be depreciated to zero over 2 years using straightline depreciation. National Auto management expects annual revenue from the Pennsylvania project to be $500,000 in the first year and $500,000 in the second year. Management expects annual costs from the Pennsylvania project to be $400,000 in the first year and $200,000 in the second year. The tax rate is 20 percent and the appropriate cost of capital for the Pennsylvania project is 4 percent. 2. What is the net present value (NPV) of the Pennsylvania project based on the information provided in the overview? Overview: The National Auto Company provides services to car owners such as emergency towing and jump starts throughout Ohio. The firm is considering the “Pennsylvania project” which would involve expanding into Pennsylvania. The Pennsylvania project, which would last for 2 years, would involve an initial investment of $300,000 for new equipment that would be hauled away for an aftertax cash flow of $0 at the end of the project in 2 years. In other words, after taking any relevant taxes into account, the cash flows from capital spending...
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This note was uploaded on 02/03/2011 for the course FINANCE 301 taught by Professor Murray during the Spring '09 term at George Mason.
 Spring '09
 MURRAY

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