Question

Part II: Capital Budgeting and Uses of Financial Statements

Voice-Soft Inc. is trying to determine whether to open a new product line, Voice-Write, a speech-to-text product, which is expected to be competitive for four years. The cost of the new capital equipment including shipping and installation is $3100. The equipment will last for 4 years. They use simple straight line depreciation and the market value of the equipment at the end of the project (or it’s salvage value) is $400. For 2013 to 2016, sales are expected to be $4000, 4000, 4200, and 4200; and operating expenses, $2800, $2800, $2700, $2700. The company is expecting to lose before tax operating income of $200 per year due to Voice-Write cannibalizing its current product, Voice-Speak. Voice-Soft has a tax rate of 40% and a weighted average cost of capital (WACC) of 12%.

Complete the Project cash flow statement below and then answer questions 2 -4.

	2012	2013	2014	2015	2016
Sales
Operating Expenses
Opportunity Costs
Depreciation
Operating Income (EBIT)
Taxes
Operating Income after taxes
Depreciation
Cash Flow
Salvage Value
Salvage Tax
Net Salvage Value
Initial capital Investment
Project Cash Flow

Determine the Net Present Value.

Determine the IRR.

Should Voice-Soft make the investment and why? Explain any limitations or concerns you may have about the acceptance or rejection of this project.

What impact does acceptance or rejection of this project have on the value of Voice-Soft as a firm and on Voice-Soft’s stock? Explain.

Answer 1

Statement shwoing NPV

	2012	2013	2014	2015	2016
						NPV
Sales		4000	4000	4200	4200
Operating Expenses		2800	2800	2700	2700
Opportunity Costs		200	200	200	200
Depreciation		675	675	675	675
Operating Income (EBIT)		325	325	625	625
Taxes		130	130	250	250
Operating Income after taxes		195	195	375	375
Depreciation		675	675	675	675
Cash Flow		870	870	1050	1050
Salvage Value					400
Salvage Tax					160
Net Salvage Value					240
Initial investment	-3100
Totoal cash flow	-3100	870	870	1050	1290
PVIF @ 12%	1	0.893	0.79719	0.711780248	0.6355181
Present value	-3100	776.8	693.559	747.3692602	819.81832	-62.4680

IRR is the rate at which NPV is 0

At 11.1% NPV comes to 0 hence IRR = 11.1%

	2012	2013	2014	2015	2016
						NPV
Sales		4000	4000	4200	4200
Operating Expenses		2800	2800	2700	2700
Opportunity Costs		200	200	200	200
Depreciation		675	675	675	675
Operating Income (EBIT)		325	325	625	625
Taxes		130	130	250	250
Operating Income after taxes		195	195	375	375
Depreciation		675	675	675	675
Cash Flow		870	870	1050	1050
Salvage Value					400
Salvage Tax					160
Net Salvage Value					240
Initial investment	-3100
Totoal cash flow	-3100	870	870	1050	1290
PVIF @ 11.1%	1	0.9	0.81016	0.729218744	0.6563625
Present value	-3100	783.1	704.841	765.6796809	846.70763	0

No ,Voice-Soft should not make the investment as NPV is negative

If project is accepted than it will reduce over all value of the firm