REPLACEMENT ANALYSIS

The Bigbee Bottling Company is contemplating the replacement of one of its bottling machines with a newer and more efficient one. The old machine has a book value of $650,000 and a remaining useful life of 5 years. The firm does not expect to realize any return from scrapping the old machine in 5 years, but it can sell it now to another firm in the industry for $280,000. The old machine is being depreciated by $130,000 per year, using the straight-line method.

The new machine has a purchase price of $1,125,000, an estimated useful life and MACRS class life of 5 years, and an estimated salvage value of $135,000. The applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. It is expected to economize on electric power usage, labor, and repair costs, as well as to reduce the number of defective bottles. In total, an annual savings of $215,000 will be realized if the new machine is installed. The company's marginal tax rate is 35%, and it has a 12% WACC.

1. What initial cash outlay is required for the new machine? Round your answer to the nearest dollar. Negative amount should be indicated by a minus sign.
   $
   
2. Calculate the annual depreciation allowances for both machines and compute the change in the annual depreciation expense if the replacement is made. Round your answers to the nearest dollar.

   Year	Depreciation Allowance, New	Depreciation Allowance, Old	Change in Depreciation
   1	$	$	$
   2
   3
   4
   5

3. What are the incremental net cash flows in Years 1 through 5? Round your answers to the nearest dollar.

   Year 1	Year 2	Year 3	Year 4	Year 5
   $	$	$	$	$

4. Should the firm purchase the new machine?

4. 
   
   Support your answer. The input in the box below will not be graded, but may be reviewed and considered by your instructor.
   
5. In general, how would each of the following factors affect the investment decision, and how should each be treated?
   1. The expected life of the existing machine decreases.

   The input in the box below will not be graded, but may be reviewed and considered by your instructor.

   2. The WACC is not constant, but is increasing as Bigbee adds more projects into its capital budget for the year.

   The input in the box below will not be graded, but may be reviewed and considered by your instructor.

MIRR unequal lives. Singing Fish Fine Foods has ​$2,090,000 for capital investments this year and is considering two potential projects for the funds. Project 1 is updating the​ store's deli section for additional food service. The estimated​ after-tax cash flow of this project is ​$580,000 per year for the next five years. Project 2 is updating the​ store's wine section. The estimated annual​ after-tax cash flow for this project is ​$510,000 for the next six years. The appropriate discount rate for the deli expansion is 9.4​% and the appropriate discount rate for the wine section is 8.8​%. What are the MIRRs for the Singing Fish Fine Foods​ projects? What are the MIRRs when you adjust for unequal​ lives? Do the MIRR adjusted for unequal lives change the decision based on​ MIRRs? ​Hint: Take all cash flows to the same ending period as the longest project.

A. If the appropriate reinvestment rate for the deli expansion is 9.49​%, what is the MIRR of the deli​ expansion?

B. If the appropriate reinvestment rate of the wine section is 8.8%, What is the MIRR of the wine section?

C. What is the MIRR adjusted for unequal lives of the deli expansion?

D. What is the MIRR adjusted for unequal lives of the wine section?

Suppose Proctor​ & Gamble​ (P&G) is considering purchasing

$ 18$18

million in new manufacturing equipment. If it purchases the​ equipment, it will depreciate it for tax purposes on a​ straight-line basis over five​ years, after which the equipment will be worthless. It will also be responsible for maintenance expenses of

$ 1.00$1.00

million per​ year, paid in each of years 1 through 5. It can also lease the equipment under a true tax lease for

​$4.54.5

million per year for the five​ years, in which case the lessor will provide necessary maintenance. Assume​ P&G's tax rate is

30 %30%

and its borrowing cost is

7.0 %7.0%.

a. What is the NPV associated with leasing the equipment versus financing it with the​ lease-equivalent loan?

b. What is the​ break-even lease

ratelong dash—that

​is, what lease amount could​ P&G pay each year and be indifferent between leasing and financing a​ purchase?

SkyTech Ltd. is expected to pay a per-share dividend next year of $30. The market’s consensus is that the firm’s dividend growth rate of 2% per year will be maintained in the foreseeable future. SkyTech’s cost of equity is 10% per year.

(a) What is the price of a share of SkyTech?                                

(b) Suppose SkyTech’s internal view is that it has an expected average yearly dividend growth     of 2% because its return on equity is 8% and management retains 25% of earnings. What is the earnings per share of SkyTech next year? What is the present value of growth opportunities per share of SkyTech?                                                 

(c)    Suppose SkyTech is about to announce that it will increase its retention ratio to 50%,       effective immediately. If the market is still unaware of SkyTech’s decision, what will be the new value of the stock after the change in policy? How would you invest to profit        from this fact?                                                      

(d)   If the dividend policy of SkyTech Ltd. has not shown a clear relationship to its earnings growth, what other absolute valuation model can you use to value the company? What cash        flows should be used in the valuation?

Guthrie Enterprises needs someone to supply it with 142,000 cartons of machine screws per year to support its manufacturing needs over the next five years. It will cost $1,820,000 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 $152,000. Your fixed production costs will be $267,000 per year, and your variable production costs should be $9.60 per carton. You also need an initial investment in net working capital of $132,000. The tax rate is 22 percent and you Year Market Value ($ millions) 1 $ 14.70 2 11.70 3 9.20 4 1.95 4 | P a g e require a return of 12 percent on your investment. Assume that the price per carton is $16.20. a. Calculate the project NPV. b. What is the minimum number of cartons per year that can be supplied and still guarantee a zero NPV? Verify that the quantity you calculated is enough to at least have a zero NPV. c. What is the highest fixed costs that could be incurred and still guarantee a zero NPV? Verify that the fixed costs you calculated are enough to at least have a zero NPV. Show step by step solution

Jupiter Manufacturing Company has developed a new detergent that can be sold for KES400 per unit. The detergent is expected to continue gaining popularity for many years. The Chief Finance Officer has, however, proposed that investment in the new product should be evaluated over a four-year time-horizon, (even though sales would continue after the fourth year), on the grounds that cash flows after four years are too uncertain to be included in the evaluation. The variable and fixed costs (both in current price terms) are as follows:

The forecasted sales volumes are as follows:

The machinery required for production of the new detergent line would cost KES 200 million. An additional initial investment of KES125 million will be needed for working capital. Jupiter Manufacturing Company pays corporate tax at the rate of 30% per year, payable one year in arrears.

Selling price and cost information are in current price terms, before applying selling price inflation of 6% per year, variable cost inflation of 4 % per year and fixed cost inflation of 6% per year. Plato Manufacturing Company uses an after-tax cost of capital of 14% to appraise all new capital projects.

Assume that production lasts for only the four years under consideration above, calculate the NPV of investing in the new machine and advice if it’s financially acceptable (work to two decimal places).

The Bigbee Bottling Company is contemplating the replacement of one of its bottling machines with a newer and more efficient one. The old machine has a book value of $550,000 and a remaining useful life of 5 years. The firm does not expect to realize any return from scrapping the old machine in 5 years, but it can sell it now to another firm in the industry for $265,000. The old machine is being depreciated by $110,000 per year, using the straight-line method. The new machine has a purchase price of $1,150,000, an estimated useful life and MACRS class life of 5 years, and an estimated salvage value of $135,000. The applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. It is expected to economize on electric power usage, labor, and repair costs, as well as to reduce the number of defective bottles. In total, an annual savings of $250,000 will be realized if the new machine is installed. The company's marginal tax rate is 35%, and it has a 12% WACC. What initial cash outlay is required for the new machine? Round your answer to the nearest dollar. Negative amount should be indicated by a minus sign. $ Calculate the annual depreciation allowances for both machines and compute the change in the annual depreciation expense if the replacement is made. Round your answers to the nearest dollar. Year Depreciation Allowance, New Depreciation Allowance, Old Change in Depreciation 1 $ $ $ 2 3 4 5 What are the incremental net cash flows in Years 1 through 5? Round your answers to the nearest dollar. Year 1 Year 2 Year 3 Year 4 Year 5 $ $ $ $ $ Should the firm purchase the new machine? Support your answer. The input in the box below will not be graded, but may be reviewed and considered by your instructor. In general, how would each of the following factors affect the investment decision, and how should each be treated? 1. The expected life of the existing machine decreases. The input in the box below will not be graded, but may be reviewed and considered by your instructor. 2. The WACC is not constant, but is increasing as Bigbee adds more projects into its capital budget for the year. The input in the box below will not be graded, but may be reviewed and considered by your instructor.

A pension fund manager is considering three investment options. The first is a stock fund, the second is a corporate bond fund, and the third is a T-bill money market fund (the risk-free asset) that yields a sure rate of 5.5%. The probability distributions of the risky funds are:

                                        Expected return (%)           Standard Deviation (%)

Stock fund (S)                          15                                  32

Bond fund (B)                           9                                    23

The correlation between the fund returns is 0.15.

a. What is the portfolio weight for the stock fund in the minimum-risk portfolio?

b.What is the portfolio weight for the stock fund in the optimal risky portfolio?

c. What is the standard deviation of the optimal risky portfolio?

d.What is the Sharpe ratio for the best feasible CAL?

e.Suppose now that you have a risk aversion coefficient A=3 and want to construct a complete portfolio on the best feasible CAL.

f. For the complete portfolio you derived part e, what is the standard deviation of the complete portfolio?

g. For the complete portfolio you derived in part e, what is the proportion invested in the stock fund?

Critically assess why a business may hedge their exposure to changing interest rates

A pension fund manager is considering three mutual funds. The first is a stock fund, the second is a long-term government and corporate bond fund, and the third is a T-bill money market fund that yields a sure rate of 4.7%. The probability distributions of the risky funds are:

The correlation between the fund returns is 0.1065.

What is the Sharpe ratio of the best feasible CAL? (Do not round intermediate calculations. Round your answer to 4 decimal places.)

Long-Term Financing Needed

At year-end 2016, Wallace Landscaping’s total assets were $1.7 million, and its accounts payable were $345,000. Sales, which in 2016 were $2.9 million, are expected to increase by 20% in 2017. Total assets and accounts payable are proportional to sales, and that relationship will be maintained. Wallace typically uses no current liabilities other than accounts payable. Common stock amounted to $450,000 in 2016, and retained earnings were $290,000. Wallace has arranged to sell $60,000 of new common stock in 2017 to meet some of its financing needs. The remainder of its financing needs will be met by issuing new long-term debt at the end of 2017. (Because the debt is added at the end of the year, there will be no additional interest expense due to the new debt.) Its net profit margin on sales is 4%, and 45% of earnings will be paid out as dividends.

1. What was Wallace's total long-term debt in 2016? Do not round intermediate calculations. Round your answer to the nearest dollar.
   $
   What were Wallace's total liabilities in 2016? Do not round intermediate calculations. Round your answer to the nearest dollar.
   $
   
2. How much new long-term debt financing will be needed in 2017? (Hint: AFN - New stock = New long-term debt.) Do not round intermediate calculations. Round your answer to the nearest dollar.
   $