Chapter 10, problems 10-1, 10-7 (a,b), 10-9, 10-13 (a,b,c)
10-1. A project has an initial cost of $52,125, expected net cash inflows of $12,000 per year for 8 years, and a cost of capital of 12%. What is the project’s NPV?(Hint: Begin by constructing a time line.)
10-7. Your division is considering two investment projects, each of which requires an upfront expenditure of $15 million. You estimate that the investments will produce the following net cash flows:
Year Project A Project B
1 $5,000,000 $20,000,000
2 $10,000,000 $10,000,000
3 $20,000,000 $6,000,000
• What are the two project’s net present values, assuming the cost of capital is 5%? 10%? 15%?
• What are the two project’s IRRs at these same costs of capital?
10-9.Davis Industries must choose between a gas-powered and an electric-powered forklift truck for moving materials in its factory. Since both forklifts perform the same function, the firm will choose only one. (They are mutually exclusive investments.) The electric-powered truck will cost more, but it will be less expensive to operate; it will cost $22,000, whereas the gas-powered truck will cost $17,500. The cost of capital that applies to both investments is 12%. The life for both types of truck is estimated to be 6 years, during which time the net cash flows for the electric-powered truck will be $6,290 per year and those for the gas-powered truck will be $5,000 per year. Annual net cash flows include depreciation expenses. Calculate the NPV and IRR for each type of truck, and decide which to recommend.
10-13.Cummings Products is considering two mutually exclusive investments whose expected net cash flows are as follows:
Expected Net Cash Flows
Year Project A Project B
0 -$300 -$405
1 -$387 -$134
2 -$193 -$134
3 -$100 -$134
4 -$600 -$134
5 -$600 -$134
6 -$850 -$134
7 -$180 0
• Construct NPV profiles for Projects A and B.
• What is each project’s IRR?
• If you were told that each project’s cost of capital was 10%, which project, if either, should be selected? If the cost of capital were 17%, what would be the proper choice?
Chapter 12, problems 12-1, 12-5, 12-7 (a)
12-1. Baxter Video Products’s sale are expected to increase by 20% from $5 million in 2010 to $6 million in 2011. It assets totaled $3 million at the end of 2010. Baxter is already at full capacity, so its assets must grow at the same rate as projected sales. At the end of 2010, current liabilities were $1 million, consisting of $250,000 of accounts payable, $500,000 of notes payable, and $250,000 of accruals. The aftertax profit margin is forecasted to be 5%, and the forecasted payout ratio is 70%. Use the AFN equation to forecast Baxter’s additional funds needed for the coming year.
12-5. At the end 2010, Bertin Inc.’s total assets were $1.2 million and its accounts payable were $375,000. Sales, which in 2010 were $2.5 million, are expected to increase by 25% in 2011. Total assets and accounts payable are proportional to sales, and that relationship will be maintained. Bertin typically uses no current liabilities other than accounts payable. Common stock amounted to $425,000 in 2010, and retained earnings were $295,000. Bertin has arranged to sell $75,000 of new common stock in 2011 to meet some of its financing needs. The remainder of its financing needs will be met by issuing long-term debt at the end of 2011. (Because the debt is added at the end of the year, there will be no additional interest expense due to the new debt.) Its profit margin on sales is 6%, and 40% of earnings will be paid out as dividends.
• What were Bertin’s total long-term debt and total liabilities in 2010?
• How much new long-term debt financing will be needed in 2011? (Hint: AFN-New stock=New long-term debt.)
12-7. Upton Computers makes bulk purchases of small computers, stocks them in conveniently located warehouses, ships them its chain of retail stores, and has a staff to advise customers and help them set up their new computers. Upton’s balance sheet as of December 31, 2010, is shown here (millions of dollars):
Total current assets
Total current liabilities
Net fixed assets
Total liabilities and equity
Sales for 2010 were $350 million and net income for the year was $10.5 million, so the firm’s profit margin was 3.0%. Upton paid dividends of $4.2 million to common stockholders, so its payout ratio was 40%. Its tax rate is 40%, and it operated at full capacity. Assume that all asset/sales ratios, spontaneous liabilities/sales ratios, the profit margin, and the payout ratio remain constant in 2011.
• If sales are projected to increase by $70 million, or 20%, during 2011, use the AFN equation to determine Upton’s projected external capital requirements.