1.) (Net present value calculation) Big Steve’s makers of swizzle sticks, is considering the purchase of a new plastic stamping machine. This investment requires an initial outlay of $105, 000 and will generate net cash inflows of $21,000 per year for 8 years.

a. What is the project’s NPV using a discount rate of 8 percent? Should the project be accepted? Why or Why not?

b. What is the project’s NPV using a discount rate of 14 percent? Should the project be accepted? Why or Why not?

c. What is this project’s internal rate of return? Should the project be accepted? Why or Why not?

a. If the discount rate is 8 percent, then the project’s NPV is $_____________(Round to the nearest dollar.)

2.) (IRR calculation) What is the internal rate of return for the following project: An initial outlay of $9,000 resulting in a single cash inflow of $17, 538 in 7 years?

The internal rate of return for the project is _________% (Round to the nearest whole percent.)

3.) (NPV and IRR calculation) East Coast Television is considering a project with an initial outlay of $X (you will have to determine this amount). It is expected that the project will produce a positive cash flow of $60,000 a year at the end of each year for the next 13 years. The appropriate discount rate for this project is 9 percent. If the project has an internal rate of return of 14 percent, what is the project’s net present value?

a. If the project has internal rate of 12%, then the project’s initial outlay is $___________(Round to the nearest cent.)

4.) (IRR and NPV calculation) The cash flows for three independent projects are found below.

PROJECT A PROJECT B PROJECT C

YEAR 0 (INITIAL INVESTMENT) $(65,000) $(110,000) $(420,000)

Year 1 $9,000 $27,000 $220,000

YEAR 2 16,000 $27,000 $220,000

YEAR 3 23,000 27,000 $220,000

YEAR 4 28,000 27,000 ________

Year 5 32,000 27,000 _________

a. Calculate the IRR for each of the projects

b. If the discount rate for all three projects is 15 percent, which projects or projects would you want to undertake?

c. What is the net present value of each of the projects where the appropriate rate is 15 percent?

a. The IRR of Project A is ________% (ROUND TO TWO DECIMALS.)

5. (IRR of an uneven cash flow stream) Microwave Oven Programming, Inc. is considering the construction of a new plant. The plant will have an initial cash outlay of $6.5 million (=-$6.5 million), and will produce a cash flow of $2.4 million at the end of year 1, $4.2 million at the end of year 2, and $1.8 million at the end of years 3 through 5. What is the internal rate of return on this new plant?

The IRR of the project is _________% (Round to two decimal places.)

6. (NPV, PI, and IRR calculations) Fijisawa, Inc. is considering a major expansion of its product line and has estimated the following cash flows associated with such an expansion. The initial outlay would be $2,040,000 and the project would generate cash flows of$500,000 per years. The appropriate discount rate is 10.6 percent.

a. Calculate the net present value.

b. Calculate the profitability index

c. Calculate the internal rate of return.

d. Should this project be accepted? Why or why not?

a. The NPV of the expansion is $___________(Round to the nearest dollar.)

7. (Payback period, net present value, profitability index, and internal rate or return calculations) You are considering a project with an initial cash outlay of $71,000 and expected cash flows of $19,880 at the end of each year for six years. The discount rate for this project is 9.6 percent.

a. What are the project’s payback and discounted payback periods?

b. What is the project’s NPV?

c. What is the project’s PI?

d. What is the project’s IRR?

a. The payback period of the project is ___________years. (Round to two decimal places.)

8. (Calculating operation cash flows) Assume that a new project will annually generate revenues of $2,200,000 and cash expenses (including both fixed and variable costs) of $1,050,000, while increasing depreciation by $240,000 per year. In addition, the firm’s tax rate is 29 percent. Calculate the operating cash flows for the new project.

The firm’s operating cash flows are $_____________(Round to the nearest dollar.)

9. (Calculating project cash flows and NPV) You are considering expanding your product line that currently consists of skateboards to include gas powered skateboards, and you feel expanding your product line that currently consists of skateboards to include gas powered skateboards, and you feel you can sell 7,000 of these per year for 10 years (after which time this project is expected to shut down with solar-powered skateboards taking over). The gas skateboards would sell for $70 each with variable of costs of $50 for each one produced, and annual fixed costs associated with production would be $190,000. In additions there would be a $1,200,000 initial expenditure associated with the purchase of new production equipment. It is assumed that this initial expenditure will be depreciated using the simplified straight-line method down to zero over 10 years. The project will also require a one-time initial investment of $30,000 in net working capital associated with inventory, and this working capital investment will be recovered when the project is shut down. Finally, assume that the firm’s marginal tax rate is 37 percent.

a. What is the initial cash outlay associated with this project?

b. What are the annual net cash flows associated with this project for years 1 through 9?

c. What is the terminal cash flow in year 10 (that is, what is the free cash flow in year 10 plus any additional cash flows associated with termination of the project)?

d. What is the project’s NPV given a required rate of return of 7 percent?

a. The initial cash outlay associated with this project is $_________________. (Round to the nearest dollar.)

10. (Inflation and project cash flows) Carlyle Chemicals is evaluating a new chemical compound used in the manufacture of a wide range of consumer products. The firm is concerned that inflation in the cost of raw materials will have an adverse effect on the project’s flows. Specifically, the firm expects the cost per unit (which is currently $0.88) will rise at a rate of 13 percent annually over the next three years. The per-unit selling price is currently $.096 and this price is expected to rise at a merger 4 percent annual rate over the next three years. If Carlyle expects to sell 5.5, 7.5, and 9.5 million units for the next three years, respectively, what is your estimate of the gross profits to the firm? Based on these estimates, what recommendation would you offer to the firm’s management with regard to this product? (Note: Be sure to round each unit price and unit cost per year to the nearest cent.)

The gross profit or (loss) for year 1 is $____________. (Round to the nearest dollar.)

11. (Calculating the expected NPV of a project) Management at the Doctors Bone and Joint Clinic is considering whether to purchase a newly developed MRI machine which they feel will provide the basis for better diagnoses of foot and knee problems. The new machine is quite expensive and will be used for a number of years. The clinic’s CFO asked an analyst to work up estimates of the NPV of the investment under three different assumptions about the level of demand for its use (high, medium, and low). The CFO assigned a 50 percent probability to the medium-demand state, a 30 percent probability to the high state, and the remaining 20 percent to the low state. After making forecasts of the demand for the machine based on the CFO’s judgment and past utilization rates for MRI scans, the following NPV estimates were made:

Demand State Probability of State NPV Estimate

Low 20% $(300,000)

Medium 50% $200,000

High 30% $400,000

a. What is the expected NPV for the MRI machine based on the above estimates? How would you interpret the meaning of the expected NPV? Does this look like a good investment to you?

b. Assuming that the probability of the medium-demand state remains 50 percent, calculate the maximum probability you can assign to the low-demand state and still have an expected NPV of 0 or higher. (Hint:The sum of the probabilities assigned to all three states must be 100 percent.)

a. The expected NPV for the MRI machine is $___________. (Round to the nearest dollar.)

12. (Scenario analysis) Family Security is considering introducing tiny GPS trackers that can be inserted in the sole of a child’s shoe which would then allow for the tracking of that child if he or she was ever lost or abducted. The estimates, that might be off by 10 percent (either above or below), associated with this new product are shown here:

Data Table

Unit price: $125

Variable costs: $75

Fixed costs: $250,000 per year. Since this is a new product line, you are not confident in your estimates and would like to know how well you will fare if your estimates on the items listed above are 10 percent lower than expected. Assume that this new product line will require an initial outlay of $1.00 million, with no working capital investment, and will last for 10 years, being depreciated down to zero using straight-line depreciation. In addition, the firm’s required rate to return or cost of capital is 10.0 percent, and the firm’s marginal tax rate is 34 percent. Calculate the project’s NPV under the “best-case scenario” (that is, use the high estimates-unit price 10 percent above expected, variable costs 10 percent less than expected, fixed costs 10 percent less than expected, and expected sales 10 percent more than expected). Calculate the project’s NPV under the “worst-case scenario.”

The NPV for the best-case scenario will be $_________________. (Round to the nearest dollar.)

13. (Real options and capital budgeting) You are considering introducing a new Tex-Mex-Thai fusion restaurant. The initial outlay on this new restaurant is $6.4 million and the present value of the free cash flows (excluding the initial outlay) is $5.3 million, such that the project has a negative expected NPV of $1.1 million. Upon closer examination, you find that there is a 55 percent chance that this new restaurant will be well received and will produce annual cash flows of $818, 000 per year forever (a perpetuity), while there is a 45 percent chance of it producing a cash flow of only $206,000 per year forever, (a perpetuity) if it isn’t well. The required rate of return you use to discount the project cash flows is 10.3 percent. However, if the new restaurant is successful, you will be able to build 15 more of them and they will have costs and cash flows similar to the successful restaurant’s costs and cash flows.

a. In spite of the fact that the first restaurant has a negative NPV, should you build it anyway? Why or Why not?

b. What is the expected NPV for this project if only one restaurant is built but isn’t well received? What is expected NPV for this project assuming 15 more are built if the first restaurant is well received? (Ignore the fact that there would be a time delay in building additional new restaurants

a. In spite of the fact that the first has a negative NPV, should you build it anyway? Why or Why not? (Select the best choice below.

A. The company should not open the first restaurant, because if the company does not open the first restaurant it will never know whether this type of restaurant will be successful.

B. The company should open the first restaurant, because the company has nothing to lose should the concept fail.

C. The company should not open the first restaurant, because companies should never undertake risky investments.

14. (Identifying spontaneous, temporary, and permanent sources of financing) Classify each of the following sources of new financing as a spontaneous, temporary, or permanent:

a. A manufacturing firm enters into a loan agreement with its bank that calls for annual principal and interest’s payments spread over the next four years.

b. A retail firm orders new items of inventory that are charged to the firm’s trade credit.

c. A trucking firm issues common stock to the public and used the proceeds to upgrade its tractor fleet.

a. A manufacturing firm enters into a loan agreement with its bank that calls for annual principal and interest’s payments spread over the next four years.

This source of financing can be classified as a (Spontaneous Financing, Temporary Financing, or Permanent financing) .

15. (Evaluating trade credit discounts) IF a firm buys on trade credit terms of 5/15, net 30 and decides to forgo the trade credit discount and pay on the net day, what is the annualized costs of forgoing the discount (assume a 360-day year)?

The annualized costs of the trade credit terms of 5/15, net 30 is __________% (Round to two decimal places.)