Provide John with financial advice on which option has the potential to yield the highest monetary value. Support your rational with calculations using time value of money and comment on the risk return relationship for each option, assume interest rate on savings is 4% and is compounded semi-annually.
John Samuel is a 55-year old accountant who works at A-accounting who is about to retire. He has the following decision to make:
Option A – Select a lump sum gratuity payment of $120,000 with a reduced pension of $1,750 per month.
Option B – Select a monthly pension of $3,300 with no lump sum gratuity payment.
In addition, John has a loan of $72,000 with loan payments of $1,200 per month for the next five years.
In: Finance
Problem 2
Halcyon Lines is considering the purchase of a new bulk carrier for $10 million. The forecasted revenues are $6 million a year and the operating costs are $4 million a year. A major refit costing $3 million will be required after both the fifth and the tenth years. After 15 years, the ship is expected to be sold for scrap for $2 million. If the discount rate is 8%, what is the ship’s NPV?
In: Finance
In: Finance
In: Finance
1. Problem 3.01 (Balance Sheet)
| eBook Problem Walk-Through
The assets of Dallas & Associates consist entirely of current assets and net plant and equipment, and the firm has no excess cash. The firm has total assets of $2.5 million and net plant and equipment equals $2 million. It has notes payable of $160,000, long-term debt of $753,000, and total common equity of $1.5 million. The firm does have accounts payable and accruals on its balance sheet. The firm only finances with debt and common equity, so it has no preferred stock on its balance sheet. Write out your answers completely. For example, 25 million should be entered as 25,000,000. Negative values, if any, should be indicated by a minus sign. Round your answers to the nearest dollar, if necessary.
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In: Finance
In recent history we have seen a lot of corporate malfeasance when it comes to manipulating financial statements in order to put the Corporation in a better light than it actually is. Do you believe that the current legislation regarding falsifying of financial statements was effective in slowing down or stopping altogether instances where corporate managers are committing fraud?
In: Finance
You begin investing in your retirement and would like to know
how many years it will take to have 1,000,000 saved in inflation
adjusted dollars. Your retirement savings currently are: $0
Assume all investments grow tax-deferred and at the same overall
rate.
4,000 Invested annually
0.1000 Annual compounded gross rate of return (blended for stocks,
bonds, etc.)
How many FEWER years will it take to save $1,000,000 for retirement
if you adjust the following:
50000 Initial retirement savings/assets (add these to PV but be
careful with signage)
In: Finance
|
The technique for calculating a bid price can be extended to many other types of problems. Answer the following questions using the same technique as setting a bid price; that is, set the project NPV to zero and solve for the variable in question. Guthrie Enterprises needs someone to supply it with 141,000 cartons of machine screws per year to support its manufacturing needs over the next five years, and you’ve decided to bid on the contract. It will cost $1,810,000 to install the equipment necessary to start production; you’ll depreciate this cost straight-line to zero over the project’s life. You estimate that in five years this equipment can be salvaged for $151,000. Your fixed production costs will be $266,000 per year, and your variable production costs should be $9.50 per carton. You also need an initial investment in net working capital of $131,000. The tax rate is 21 percent and you require a return of 13 percent on your investment. Assume that the price per carton is $16.10. |
| a. |
Calculate the project NPV. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
| b. |
What is the minimum number of cartons per year that can be supplied and still break even? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.) |
| c. |
What is the highest fixed costs that could be incurred and still break even? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
In: Finance
RATIO ANALYSIS AT S&S AIR, INC.
Chris Guthrie was recently hired by S&S Air, Inc., to assist the company with its financial planning and to evaluate the company’s performance. Chris graduated from college five years ago with a finance degree. He has been employed in the finance department of a Fortune 500 company since then.
S&S Air was founded 10 years ago by friends Mark Sexton and
Todd Story. The company has manufactured and sold light airplanes
over this period, and the company’s products have received high
reviews for safety and reliability. The company has a niche market
in that it sells primarily to individuals who
own and fly their own airplanes. The company has two models: the
Birdie, which sells for $103,000, and the Eagle, which sells for
$178,000.
Although the company manufactures aircraft, its operations are different from commercial aircraft companies. S&S Air builds aircraft to order. By using prefabricated parts, the company can complete the manufacture of an airplane in only five weeks. The company also receives a deposit on each order, as well as another partial payment before the order is complete. In contrast, a commercial airplane may take one and one-half to two years to manufacture once the order is placed.
Mark and Todd have provided the following financial statements. Chris has gathered the industry ratios for the light airplane manufacturing industry.
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S&S AIR, INC. |
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Sales Cost of goods sold Other expenses Depreciation EBIT Interest Taxable income Taxes (25%) Net income Dividends $ 705,000 Add to retained earnings 1,612,789 |
$46,298,115 34,536,913 5,870,865 2,074,853 $ 3,815,484 725,098 $ 3,090,386 772,597 $ 2,317,789 |
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S&S AIR, INC. |
||||||||
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Assets |
Liabilities and Equity |
|||||||
|
Current assets |
Current liabilities |
|||||||
|
Cash |
$ 524,963 |
Accounts payable |
$ 1,068,356 |
|||||
|
Accounts receivable |
843,094 |
Notes payable |
2,439,553 |
|||||
|
Inventory |
1,235,161 |
Total current liabilities |
$ 3,507,909 |
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Total current assets |
$ 2,603,218 |
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Long-term debt |
$ 6,300,000 |
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Fixed assets |
||||||||
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Net plant and equipment |
$20,381,945 |
Shareholder equity |
||||||
| Common stock | $ 460,000 | |||||||
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Retained earnings |
12,717,254 |
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Total equity |
$ 13,177,254 |
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Total assets |
$22,985,163 |
Total liabilities and equity |
$ 22,985,163 |
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|
Light Airplane Industry Ratios |
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Lower |
Median |
Upper |
|
|
Current ratio Quick ratio Cash ratio Total asset turnover Inventory turnover Receivables turnover Total debt ratio Debt-equity ratio Equity multiplier Times interest earned Cash coverage ratio Profit margin Return on assets Return on equity |
.50 .21 .08 .68 4.89 6.27 .41 .68 1.68 5.18 5.84 4.05% 6.05% 9.93% |
1.43 .35 .21 .85 6.15 9.82 .52 1.08 2.08 8.06 9.41 5.10% 9.53% 15.14% |
1.89 .62 .39 1.38 10.89 14.11 .61 1.56 2.56 9.83 10.27 7.15% 13.21% 19.15% |
QUESTIONS
Using the financial statements provided for S&S Air, calculate each of the ratios listed in the table for the light aircraft industry.
In: Finance
|
A firm is considering an investment in a new machine with a price of $17.7 million to replace its existing machine. The current machine has a book value of $7.4 million and a market value of $6.1 million. The new machine is expected to have a 4-year life, and the old machine has four years left in which it can be used. If the firm replaces the old machine with the new machine, it expects to save $7.3 million in operating costs each year over the next four years. Both machines will have no salvage value in four years. If the firm purchases the new machine, it will also need an investment of $450,000 in net working capital. The required return on the investment is 12 percent and the tax rate is 25 percent. The company uses straight-line depreciation. |
|
What is the NPV of the decision to purchase a new machine? (Do not round intermediate calculations and enter your answer in dollars, not millions, rounded to 2 decimal places, e.g., 1,234,567.89.) |
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What is the IRR of the decision to purchase a new machine? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) |
|
What is the NPV of the decision to purchase the old machine? (A negative amount should be indicated by a minus sign. Do not round intermediate calculations and enter your answer in dollars, not millions, rounded to 2 decimal places, e.g., 1,234,567.89.) |
|
What is the IRR of the decision to purchase the old machine? (A negative amount should be indicated by a minus sign. Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16. ) |
In: Finance
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A proposed cost-saving device has an installed cost of $710,000. The device will be used in a five-year project but is classified as three-year MACRS property for tax purposes. The required initial net working capital investment is $120,000, the marginal tax rate is 23 percent, and the project discount rate is 10 percent. The device has an estimated Year 5 salvage value of $89,000. What level of pretax cost savings do we require for this project to be profitable? MACRS schedule. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Pretax cost savings=? |
In: Finance
You have just turned 22 years old, received your bachelor's degree, and accepted your first job. Now you must decide how much money to put into your retirement plan. The plan works as follows: Every dollar in the plan earns 7.0% per year. You cannot make withdrawals until you retire on your 65th birthday. After that, you can make withdrawals as you see fit. You decide that you will plan to live to 100 and work until you turn 65.
You estimate that to live comfortably in retirement, you will need $100,000 per year, starting at the end of the first year of retirement and ending on your 100th birthday. You will contribute the same amount to the plan at the end of every year that you work. How much do you need to contribute each year to fund your retirement? Your annual contribution should be. (Round to the nearest cent.)
In: Finance
Lane Industries is considering three independent projects, each of which requires a $2.5 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented here:
| Project H (high risk): | Cost of capital = 13% | IRR = 15% |
| Project M (medium risk): | Cost of capital = 10% | IRR = 8% |
| Project L (low risk): | Cost of capital = 8% | IRR = 9% |
Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 40% debt and 60% common equity, and it expects to have net income of $3,100,000. If Lane establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to 2 decimal places.
In: Finance
You are serving on a jury. A plaintiff is suing the city for injuries sustained after a freak street-sweeper accident. In the trial, doctors testified that it will be five years before the plaintiff is able to return to work. The jury has already decided in favor of the plaintiff. You are the foreperson of the jury and propose that the jury give the plaintiff an award to cover the following: (a) The present value of two years’ back pay. The plaintiff’s annual salary for the last two years would have been $44,000 and $47,000, respectively. (b) The present value of five years’ future salary. You assume the salary will be $51,000 per year. (c) $200,000 for pain and suffering. (d) $25,000 for court costs. Assume the salary payments are equal amounts paid at the end of each month.
a. If the interest rate you choose is an EAR of 7 percent, what is the size of the settlement? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
In: Finance
Lane Industries is considering three independent projects, each of which requires a $2.5 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented here:
| Project H (high risk): | Cost of capital = 13% | IRR = 15% |
| Project M (medium risk): | Cost of capital = 10% | IRR = 8% |
| Project L (low risk): | Cost of capital = 8% | IRR = 9% |
Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 40% debt and 60% common equity, and it expects to have net income of $3,100,000. If Lane establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to 2 decimal places.
In: Finance