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Capital Budgeting Solutions3

# Capital Budgeting Solutions3 - B C D E 13.17 13.61 13.32...

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Old Exam Questions - Capital Budgeting - Solutions Page 21 of 96 Pages * B. 13.17% C. 13.61% D. 13.32% E. 13.46% Project A CFj = -\$2,000 CFj = \$ 400 CFj = \$ 500 CFj = \$ 800 CFj = \$ 900 I/YR = 8 Solve for NPV = \$95.63 Solve for IRR = 9.85% Project B CFj = -\$1,800 CFj = \$ 800 CFj = \$ 500 CFj = \$ 400 CFj = \$ 700 I/YR = 8 Solve for NPV = \$201.46 Solve for IRR = 13.17% 17. The cash flows associated with a project can be represented by the following decision tree (conditional probabilities are in parentheses): Year 0 Year 1 Year 2 Year 3 \$100 (.4) \$200 (.4) \$300 (.6) \$300 (.4) \$400 (.4) \$500 (.6) \$600 (.6) -\$500 \$300 (.4) \$400 (.4) \$500 (.6) \$500 (.6)

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Old Exam Questions - Capital Budgeting - Solutions Page 22 of 96 Pages \$600 (.4) \$700 (.6) \$800 (.6) What is the expected NPV for this project if the appropriate cost of capital is 10 percent? A. \$671.84 B. \$624.29 C. \$656.38 * D. \$685.73 E. \$642.65 After calculating expected cash flows for each year, NPV will be equal to: -\$500 + \$420 / (1.10) 1 + \$500 / (1.10) 2 + \$520 / (1.10) 3 = \$685.73 CF 0 = -\$500.00 CF 1 = \$420.00 CF 2 = \$500.00 CF 3 = \$520.00 I/YR = 10% Solve for NPV = \$685.73 18. Assume that you are given the following cash flows for Project A and that the appropriate cost of capital for Project A is 12 percent. What is the Modified Internal Rate of Return for Project A? Year Project A 0 - 500.00 1 150.00 2 175.00 3 200.00 4 250.00 * TV = (\$150)(1.12) 3 + (\$175)(1.12) 2 + (\$200)(1.12) 1 + (\$250)(1.10) 0 = \$904.26 CF 0 = -\$500.00 CF 1 = \$ 0.00 CF 2 = \$ 0.00
Old Exam Questions - Capital Budgeting - Solutions Page 23 of 96 Pages CF 3 = \$ 0.00 CF 4 = \$904.26 Solve for MIRR = 15.97% Alternatively, N = 4 PV = -\$500.00 PMT = \$0.00 FV = \$904.26 Solve for I/YR = 15.97% 19. Your company is considering taking on a new project that will cost \$200,000. It is estimated that the system will increase sales/revenues by \$150,000 annually for Years 1-6. Operating expenses, other than depreciation, are expected to be equal to 60 percent of sales in each year. The system will be depreciated on a MACRS basis over 5 years (depreciation rates are contained in Appendix D, Chapter 12, of the exam handout packet) to a zero book value, but the expected salvage at Year 6 is \$40,000. The firm will also be required to invest \$25,000 in net working capital at Year 0, but will recapture this amount at Year 6. You may assume that the tax rate on ordinary income is 40 percent (record negative taxes as a positive cash flow). As you can calculate, the IRR for this project is 13.02%. If we assume that the firm’s cost of capital for this project is 12 percent, then what is the NPV for this project? Sample tables (with some data provided) are given to help you arrange the data. Year Revenue Operating Expenses Less Deprec. EBT Taxes Net Income Plus Deprec. OCF 1 \$150,000 -\$40,000 \$40,000 2 \$150,000 -\$64,000 \$64,000 3 \$150,000 -\$38,000 \$38,000 4 \$150,000 -\$24,000 \$24,000 5 \$150,000 -\$22,000 \$22,000 6 \$150,000 -\$12,000 \$12,000 Year Initial Investment OCF Investment In NWC Recpture Of NWC Salvage Taxes On Salvage FCF PV Of FCF 0 -\$200,000 -\$25,000 -\$225,000 -\$225,000.00 1 2 3 4 5

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Old Exam Questions - Capital Budgeting - Solutions Page 24 of 96 Pages 6 *
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Capital Budgeting Solutions3 - B C D E 13.17 13.61 13.32...

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