Question

4. A project with fixed costs of 320,000 and operating cash flow of 160,000 was expected to sell 11,000 units.  The final results for the year were that 9,800 units were sold instead.

What is the degree of operating leverage? __________________

What is the percentage change in quantity? _________________

What is the percentage change in operating cash flow? ________________

What would the operating cash flow be under the actual level of production? __________________

7.  Colby is in the furniture moving business.  He has some equipment that he purchased new two years ago for $6,000.  At the time, Colby’s accountant told him to depreciate it straight line over three years.  Now there is better equipment out there and he wants to get rid of his old machine, but he can get only $700 for it.  Colby is in the 35% tax bracket.

What is the book value of the old machine? __________

What is the market value of the old machine? _________

Will Colby have a gain or loss? _____________

How much will his gain or loss be? ____________

What will be the tax effect (amount)? ____________

What is the after tax salvage value of the old machine? _______________

8.   A certain asset was purchased at a cost of $1,140,000.  This company is in the 35% tax bracket.  Complete the lines below:

Year           MACRS %      Amount of Dep        Amount of Dep                 Difference                           Tax Effect

under MACRS         under straight line

1           .3333                      ______________           ________________                     

2           .4444                      ______________           ________________          ______________           ______________

3           .1482                      ______________           ________________                     

4           .0741                      ______________

9.  Frugal Company is considering two machines for purchase.  The machine is integral to their business, so when it wears out, it will be replaced with a similar machine.  The company uses a discount rate of 9% for their investments.  Compute the equivalent annual cost of each machine.

                                            Machine A                                 Machine B

Initial cost                                 219,000                                 188,000

Useful Life                                 14 years                                 13 years

Annual maintenance           1,500 per year                      2,000 per year

EAC of A _____________   EAC of B ______________  Which should Frugal choose? ______________

                                                                                                                                            A or B

Answer 1

4. Operating leverage= Contribution/(Contribution-Fixed Cost)=4,80,000/(4,80,000-3,20,000)=3 times

Percentage change in quantity=(11,000-9,800)/11,000=0.1091 or 10.91%

Percentage change in operating cash flow=(1,60,000-1,07,636)/1,60,000=0.3273 or 32.73%

Operating cash flow for 9,800 units=4,80,000*9,800/11,000-3,20,000=$1,07,636

7. Book value of old machine= 6,000(1-2/3)=$2,000

Market value of old machine= $700

Colby will have a loss since market value is less than book value.

Capital loss=$(2,000-700)=$1,300

Tax savings on capital loss=$1,300*35%=$455

After tax salvage value of old machine= $(700+455)=$1,155

8. Because of not having knowledge about MACRS system of depreciation I am unable to answer this question.

9. For Machine A, annual maintenance=$1,500 per year having useful life of 14 years

Initial investment=$2,19,000

PVAF(9%.14)=7.7862

Equivalent initial investment=$2,19,000/7.7862=$28,126.69

EAC of A= $(1,500+28,126.69)=$29,626.69

For Machine B, annual maintenance=$2,000 per year having useful life of 13 years

Initial investment=$1,88,000

PVAF(9%.13)=7.4869

Equivalent initial investment=$1,88,000/7.4869=$25,110.53

EAC of B= $(2,000+25,110.53)=$27,110.53

Thus Frugal should choose Machine B.