Alliance is considering automating their production process Answer

Alliance is considering automating their production process Answer

Alliance is considering automating their production process to become more efficient. In order to do so they will buy a new monorail manufacturing system at a cost of $500,000. The system will be depreciated using seven-year MACRS (15%, 25%, 17%, 12%, 9%, 9%, 9%, 4%). The system will be sold in five years for $200,000. If they buy the system they will Trade In their current trolleys for $100,000. The trolleys were originally bought four years ago for $500,000 and are being depreciated using straight-line depreciation over five years. If Alliance does not replace the trolleys, they will be kept for the next five years when they will be sold for $10,000. The new system will not affect Alliance’s sales but will reduce Costs of Goods Sold by $1,000,000. However, Fixed Costs will rise by $50,000 per year if the monorail system is installed. The tax rate is 40%. What are the incremental cash flows associated with this proposed project?

Balance Sheet Effects |———-Depreciation Expenses————-|

Today Year 1 Year 2 Year 3 Year 4 Year 5 End

1. Buy New Assets

2. Trade In Old Assets

3. Keep Old Assets

4. Change in NWC

Income Statement Effects

Year 1 Year 2 Year 3 Year 4 Year 5

Net Sales

– Net COGS

– Net Depreciation

– Net Fixed Costs

= Net OEBT

– Net Taxes

= Net OEAT

+ Net Depreciation

= Net Operating CF

Total Cash Flows

CF0 =

C01 =

C02 =

C03 =

C04 =

C05 =

C06 =

1. What is the Initial Cost of this project?

a) $300,000

b) $400,000

c) $500,000

d) $600,000

2. What is net depreciation expense on the income statement in Year 1?

a) -$75,000

b) -$25,000

c) $100,000

d) $175,000

3. What is the After Tax Salvage Value of selling the equipment at the end?

a) $164,000

b) $182,000

c) $218,000

d) $236,000

4. What is the Operating Cash Flow in Year 2

a) $430,000

b) $510,000

c) $560,000

d) $620,000

5. What is the NPV of this project?

a) $500,000

b) $1,000,000

c) $1,500,000

d) $2,000,000

Kaffie Frederick is considering an expansion of it’s operations by introducing a new product line. In order to expand, they will have to buy new machinery for $1,000,000. The machinery will be depreciated using three-year MACRS (33%, 45%, 15%, 7%). In four years they will be able to sell the machinery for $250,000. If they go through with the planned expansion, Sales of the new product will be $750,000 per year and sales of the old product will rise by $50,000 per year. Variable Costs on the new product are 75% of new product sales while variable costs on the old product are 65% of old product sales. The new project will require additional fixed costs of $20,000 per year. The tax rate is 40%. What are the incremental cash flows associated with this proposed project?

Balance Sheet Effects |———-Depreciation Expenses————-|

Today Year 1 Year 2 Year 3 Year 4 Year 5 End

1. Buy New Assets

2. Trade In Old Assets

3. Keep Old Assets

4. Change in NWC

Income Statement Effects

Year 1 Year 2 Year 3 Year 4 Year 5

Net Sales

– Net COGS

– Net Depreciation

– Net Fixed Costs

= Net OEBT

– Net Taxes

= Net OEAT

+ Net Depreciation

= Net Operating CF

Total Cash Flows

CF0 =

C01 =

C02 =

C03 =

C04 =

C05 =

C06 =

6. What is the Initial Cost of this project?

a) $500,000

b) $1,000,000

c) $1,500,000

d) $2,000,000

7. What is net depreciation expense on the income statement in Year 1?

a) $175,000

b) $250,000

c) $330,000

d) $475,000

8. What is the After Tax Salvage Value of selling the equipment at the end?

a) $110,000

b) $150,000

c) $175,000

d) $215,000

9. What is the Operating Cash Flow in Year 2

a) $238,000

b) $291,000

c) $363,000

d) $422,000

10. What is the IRR of this project?

a) 0%

b) 5%

c) 10%

d) 15%

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