Question

McFann Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs:

	Year 1	Year 2	Year 3	Year 4
Unit sales	4,800	5,100	5,000	5,120
Sales price	$22.33	$23.45	$23.85	$24.45
Variable cost per unit	$9.45	$10.85	$11.95	$12.00
Fixed operating costs except depreciation	$32,500	$33,450	$34,950	$34,875
Accelerated depreciation rate	33%	45%	15%	7%

This project will require an investment of $10,000 in new equipment. The equipment will have no salvage value at the end of the project’s four-year life. McFann pays a constant tax rate of 40%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project’s net present value (NPV) would be when using accelerated depreciation. (Note: Round your answer to the nearest whole dollar.)

$55,570

$41,677

$46,308

$53,254

Now determine what the project’s NPV would be when using straight-line depreciation. (Note: Round your answer to the nearest whole dollar.)   

The   depreciation method will result in the highest NPV for the project.

No other firm would take on this project if McFann turns it down. How much should McFann reduce the NPV of this project if it discovered that this project would reduce one of its division’s net after-tax cash flows by $600 for each year of the four-year project? (Note: Round your answer to the nearest whole dollar.)

$1,861

$2,047

$1,396

$1,582

The project will require an initial investment of $10,000, but the project will also be using a company-owned truck that is not currently being used. This truck could be sold for $18,000, after taxes, if the project is rejected. What should McFann do to take this information into account?

Increase the NPV of the project by $18,000.

Increase the amount of the initial investment by $18,000.

The company does not need to do anything with the value of the truck because the truck is a sunk cost.

Answer 1

1.

2. The Straight Line depreciation method will result in the highest NPV for the project

3. NPV will reduce by = Annual Cash Flow * PVAF (11%,4) = 600 * 3.1024 = $1861 Option A

4. Option B Increase the amount of the initial investment by $18,000. The company has to consider the opportunity of not selling the truck. thus the same is included in initial investment