Chapter 12

1. Chapter 12 Estimating Cash Flows on Capital Budgeting Projects

2. Problem 1 Which of these capital investment analysis techniques facilitates comparison of projects with unequal useful lives? • Internal rate of return • Equivalent annual annuity • Net present value • Modified internal rate of return

3. Problem 1 Answer • Answer: B The other responses are capital budgeting calculation methods

4. Problem 2 At the conclusion of your project, your company sells a fixed asset for $200,000. The asset’s book value is $148,000, and the firm’s tax rate is 34 percent. Calculate the after-tax cash flow from this sale

5. Problem 2 Answer Alternately: ATCF = Book Value + (MV – BV) x (1 – T) = 148,000 + (200,000 – 148,000) x (1 - .34) = 182,320

6. Problem 3 A firm purchases a machine for $2,000,000 which has a class life of 3 years MACRS. The firm’s cost of capital is 12 percent. When calculating operating cash flows, what is the present value of the tax benefits from depreciation?

7. Problem 3 Answer Present value of tax benefits:

8. Problem 4 You are evaluating the proposed acquisition of a machine that costs $220,000. The machine will result in increased sales of $120,000 per year for 3 years, but costs will increase by $25,000 per year. The machine will be depreciated 3 years MACRS and will be sold for an estimated $50,000 after 3 years. NWC will increase by $75,000 and remain constant for the life of the project. The firm’s tax rate is 40 percent and discount rate is 9 percent. Calculate the project’s cash flows.

9. Problem 4 Answers • Initial outlay:

10. Operating Cash Flow:

11. Terminal Cash Flow: • Book value after year 3 = $16,302 • Gain on sale = $50,000 - $16,302 = $33,698

12. Putting it Together Alternatively: