Morning Sky, Inc. (MSI), manufactures and sells computer games. The company has several product lines based on the age range of the target market. MSI sells both individual games as well as packaged sets. All games are in CD format, and some utilize accessories such as steering wheels, electronic tablets, and hand controls. To date, MSI has developed and manufactured all the CDs itself as well as the accessories and packaging for all of its products.

The gaming market has traditionally been targeted at teenagers and young adults; however, the increasing affordability of computers and the incorporation of computer activities into junior high and elementary school curriculums has led to a significant increase in sales to younger children. MSI has always included games for younger children but now wants to expand its business to capitalize on changes in the industry. The company currently has excess capacity and is investigating several possible ways to improve profitability.

MSI is considering eliminating a product from its ToddleTown Tours collection. This collection is aimed at children one to three years of age and includes “tours” of a hypothetical town. Two products, The Pet Store Parade and The Grocery Getaway, have impressive sales. However, sales for the third CD in the collection, The Post Office Polka, have lagged the others. Several other CDs are planned for this collection, but none is ready for production.

MSI’s information related to the ToddleTown Tours collection follows:

*Allocated based on total sales revenue.

MSI has determined that elimination of the Post Office Polka (POP) program would not impact sales of the other two items. The remaining fixed overhead currently allocated to the POP product would be redistributed to the remaining two products.

Required:
1. Calculate the incremental effect on profit if the POP product is eliminated.

2. Should MSI drop the POP product?

3-a. Calculate the incremental effect on profit if the POP product is eliminated. Suppose that $1,200 of the common fixed costs could be avoided if the POP product line were eliminated.

3-b. Should MSI drop the POP product?

MSI’s educational products are currently sold without any supplemental materials. The company is considering the inclusion of instructional materials such as an overhead slide presentation, potential test questions, and classroom bulletin board materials for teachers. A summary of the expected costs and revenues for MSI’s two options follows:

Required:
1. Based on the given data, compute the increase or decrease in profit that would result if instructional materials were added to the CDs.

2. Should MSI add the instructional materials or sell the CDs without them?

3-a. Suppose that the higher price of the CDs with instructional materials is expected to reduce demand to 21,000 units. Complete the table given below based on Requirement 1 and 2 data.

3-b. Should MSI add the instructional materials or sell the CDs without them?

The literature following the Krugman model has been dubbed “new trade theory”, and the literature on firm heterogeneity following the Melitz model “new new trade theory”. Explain reasons why these names have been used to describe these models, contrasting the features of “classic trade theory” with the newer models.

A company decides to raise $30 million in order to finance a new division within the company. They will exclusively use new equity to finance this new division. What will be the likely impact of this decision on the company's WACC? Explain why or why not and use financial leverage, component costs and capital structure in your answer.

Kennedy Company is thinking about extending trade credit to new customers. This will increase the annual sales by $510,000 if credit is extended to these customers. Of the new accounts receivable related to these sales, 11% will be uncollectible. Additional collection costs will be 8% of sales. Besides, production and selling costs will be 65% of sales. The company is in a 30% tax bracket.

11. What is the amount of additional collection costs? $40,800 $56,100 $331,500 $510,000 None of the above

12. What is the profit on the new sales? $24,480 $57,120 $81,600 $510,000 None of the above

13. What is the percentage return on the new sales? 4.80% 8% 11.20% 16% None of the above

14. What is the amount of the new investment in accounts receivable if the accounts receivable are turned over 3 times a year? $110,500 $170,000 $171,360 $331,500 None of the above

15. What is the return on investment, assuming that the only new investment will be in accounts receivable? 8% 14.40% 33.60% 51.69% None of the above

3.8 Bright Horizons Skilled Nursing Facility, an investor-owned company, constructed a new building to replace its outdated facility. The new building was completed on January 1, 2015, and Bright Horizons began recording depreciation immediately. The total cost of the new facility was $18,000,000, comprising (a) $10 million in construction costs and (b) $8 million for the land. Bright Horizons estimated that the new facility would have a useful life of 20 years. The salvage value of the building at the end of its useful life was estimated to be $1,500,000. a. Using the straight-line method of depreciation, calculate annual depreciation expense on the new facility b.Assuming a 40 percent income tax rate, how much did Bright Horizons save in income taxes for the year ended December 31, 2015, as a result of the depreciation recorded on the new facility (i.e., what was the depreciation shield)? c.Does the depreciation shield result in cash or noncash savings for Bright Horizons? Explain.

3.8 Bright Horizons Skilled Nursing Facility, an investor-owned company, constructed a new building to replace its outdated facility. The new building was completed on January 1, 2015, and Bright Horizons began recording depreciation immediately. The total cost of the new facility was $18,000,000, comprising (a) $10 million in construction costs and (b) $8 million for the land. Bright Horizons estimated that the new facility would have a useful life of 20 years. The salvage value of the building at the end of its useful life was estimated to be $1,500,000.

Using the straight-line method of depreciation, calculate annual depreciation expense on the new facility

Assuming a 40 percent income tax rate, how much did Bright Horizons save in income taxes for the year ended December 31, 2015, as a result of the depreciation recorded on the new facility (i.e., what was the depreciation shield)?

Does the depreciation shield result in cash or noncash savings for Bright Horizons? Explain.

The mean time it takes aspirin to relieve headache pain is known to be 30 minutes. A drug company has developed a new drug that they claim provides relief in less time. Government scientists tested the new drug on a sample of 25 individuals with headaches. For this sample, the mean time to relief was 26 minutes. The population standard deviation for the new drug is known to be 7 minutes. A level of significance of .01 is to be used to test if the new drug relieves pain faster than aspirin.

1. State the null and alternative hypotheses for the test of the new drug.

2. Determine the critical value (cut-off point) for the test.

3. a. Draw a diagram of the sampling distribution used to perform the test. b. Label the horizontal axis of your diagram. c. Locate the critical value on your diagram.

4. Calculate the test statistic for this hypothesis test.

5. To what is the test statistic compared to decide on the effectiveness of the new drug?