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Chapter 8 Questions & Problems: 10, 11

10. NPV and IRR. A project that costs $3,000 to install will provide annual cash flows of $800 for

each of the next 6 years. (LO8-1 and LO8-2)

a. What is NPV if the discount rate is 10%?

b. How high can the discount rate be before you would reject the project?

11. NPV. A proposed nuclear power plant will cost $2.2 billion to build and then will produce cash

flows of $300 million a year for 15 years. After that period (in year 15), it must be decommissioned

at a cost of $900 million. (LO8-1 and LO8-2)

a. What is project NPV if the discount rate is 5%?

b. What if the discount rate is 18%?

Chapter 9 Questions & Problems: 1, 2, 3, 5,

1. Cash Flows. Quick Computing currently sells 10 million computer chips each year at a price of

$20 per chip. It is about to introduce a new chip, and it forecasts annual sales of 12 million of

these improved chips at a price of $25 each. However, demand for the old chip will decrease,

and sales of the old chip are expected to fall to 3 million per year. The old chips cost $6 each to

manufacture, and the new ones will cost $8 each. What is the proper cash flow to use to evaluate

the present value of the introduction of the new chip? (LO9-1)

2. Incremental Cash Flows. A corporation donates a valuable painting from its private collection

to an art museum. Which of the following are incremental cash flows associated with the donation?

(LO9-1)

a. The price the firm paid for the painting

b. The current market value of the painting

c. The deduction from income that it declares for its charitable gift

d. The reduction in taxes due to its declared tax deduction

3. Cash Flows. Conference Services Inc. has leased a large office building for $4 million per year.

The building is larger than the company needs; two of the building’s eight stories are almost

empty. A manager wants to expand one of her projects, but this will require using one of the

empty floors. In calculating the net present value of the proposed expansion, senior management

allocates one-eighth of $4 million of building rental costs (i.e., $.5 million) to the project

expansion, reasoning that the project will use one-eighth of the building’s capacity. (LO9-1)

a. Is this a reasonable procedure for purposes of calculating NPV?

b. Can you suggest a better way to assess a cost of the office space used by the project?

5. Cash Flows. Tubby Toys estimates that its new line of rubber ducks will generate sales of $7

million, operating costs of $4 million, and a depreciation expense of $1 million. If the tax rate is

25%, what is the firm’s operating cash flow? (LO9-2)

7. Calculating Cash Flows. The owner of a bicycle repair shop forecasts revenues of $160,000 a

year. Variable costs will be $50,000, and rental costs for the shop are $30,000 a year. Depreciation

on the repair tools will be $10,000. (LO9-2)

a. Prepare an income statement for the shop based on these estimates. The tax rate is 20%.

b. Now calculate the operating cash flow for the repair shop using all three methods suggested

in the chapter. All three approaches should result in the same value for cash flow.

i. Dollars in minus dollars out.

ii. Adjusted accounting profits.

iii. Add back depreciation tax shield.