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Tutorial 4 Questions 2

Uploaded by

chengjingyao0515
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© © All Rights Reserved
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FINM7006: Applied Foundations of Finance

Tutorial 4 Questions

Question One
Two investment projects have been identified and the net cash flows for each appear
below. The required rate of return is 10% p.a. for each. Calculate the NPV for each
project and advise which project/s will increase the value of the host firm. If the
projects were mutually exclusive, which project would you advise the host firm to
choose?

Year
Project 0 1 2 3 4 5
A -10000 3000 3000 3000 3000 3000
B -21000 4000 4000 4000 8000 8000

Question Two
Sault Ltd is considering the acquisition of an ice cream machine compactor at a cost
of $25,000. The machine is estimated to have zero value at the end of its five-year
life. Depreciation is 20% p.a. straight line and the company tax rate is 40%. The
project will also return the following annual net cash flows (pre-tax):

Year Net Cash Flow (pre-tax) ($)


1 6000
2 10000
3 12000
4 15000
5 7000

Given this information, and the fact that the project’s after-tax required rate of return
is 10% p.a., calculate the project’s NPV. Should Sault Ltd accept the project? Why?

Question Three
Chaudhry Ltd is considering installing a new beer-making machine that costs
$110,000 plus installation costs of $10,000. The new machine will generate cash
revenues of $200,000 annually and has associated cash expenses of $125,000 per
annum. The machine itself will be depreciated to a salvage value of $10,000 over a
10-year period using the straight-line depreciation method. At the end of the 10 th year,
the machine will then be sold for $15,000. Given the corporate tax rate is 30% p.a.,
determine (and tabulate) the incremental cash flows associated with this project and
calculate its NPV using a discount rate of 50% p.a.

1
FINM7006: Applied Foundations of Finance

Question Four
Chocolate Heaven Ltd, producers of fine quality chocolates, need to replace a
chocolate mixing machine. Two competing machines, A and B are available. Both
machines are considered adequate in terms of their ability to complete the required
tasks. Forecasted cash flows for each machine are provided below.

A B
Estimated life 3 years 6 years
Cost 13000 22000
Net Cash Flows (pre-tax) 10000 14000
Salvage Value 1000 4000
Depreciation (p.a.) 4000 3000

Given a tax rate of 40% and an after-tax required rate of return of 10% p.a., which
machine would you recommend Chocolate Heaven should purchase? Why?

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