1 Business Finance 620 CH07-08-09-12 Practice Problems ____ 1. A central workstation for a pharmaceutical research facility costs $42,650 annually to maintain. If this unit were replaced with new equipment costing $149,800 and guaranteeing a working life of 6 years, how much could managers afford to spend each year on workstation maintenance and still justify replacing the system? The hurdle rate on replacement decisions of this sort is 12%. A. $6,215 B. $42,650 C. $5,849 D. $17,683 ____ 2. If two investment projects have the same positive NPV, then A. they also must have the same IRR. B. they also must have the same payback period. C. they must add the same amount to the value of the firm. D. the project with the smaller initial cost will add more to shareholder value. ____ 3. A three-year investment project requires the following investments in working capital: > $246,400 at project launch > $131,150 at the end of the first year of operation > $61,230 at the end of the second year of operation Each amount is designed to support revenue in the following year. How much of the total working capital investment will be recovered by the end of the project? The project’s hurdle rate is 11.6%. A. $246,400 B. $377,550 C. $438,780 D. Nothing; working capital investments are cash outflows and cannot be recovered. ____ 4. A special drilling machine purchased for $94,275 at the beginning of a seven-year project is 65% depreciated at the end of the project. If the machine is sold at the end of the project for $38,225, how much will the firm net from the sale? The firm's marginal tax rate is 35%, the project’s hurdle rate is 12.3%, and the firm’s WACC is 13.6%. A. $27,018 B. $32,804 C. $38,172 D. $36,395 ____ 5. Which of the following statements represents the most plausible conclusion one might draw about a six-year investment project with a 13% hurdle rate, annual after-tax cash flows of $107,600, and a payback period of 5.90 years? A. The project's NPV is greater than $107,600. B. The project's IRR is less than 13%. C. The project's payback period is too long. D. The project's profitability index is 16.7%. Business Finance 620 CH07-08-09-12 Practice Problems 2 ____ 6. A three-year R&D investment project has the following annual after-tax cash flows (realized at the end of the year): > Year 1 = $67,500 > Year 2 = $82,300 > Year 3 = $77,400 If the project’s hurdle rate is 12.5%, and its payback period is 2.4 years, how much can managers afford to spend on the initial investment and still justify launching the project? A. $227,200 B. $187,610 C. $179,388 D. The answer cannot be determined from the information provided. ____ 7. A four-year investment project has an initial cost of $287,100 and the following projected after-tax cash flows for the first three years: Year 1 $ 82,700 Year 2 88,400 Year 3 96,300 The project’s hurdle rate is 9.55%, the firm’s WACC is 12.8%, and the firm’s marginal tax bracket is 35%. What minimum after-tax cash flow must the project earn in the final (fourth) year to make the project acceptable to management? A. $99,589 B. $93,191 C. $104,752 D. The answer cannot be determined from the information provided. ____ 8. The price of a new industrial polisher is $17,800. The annual cost to operate and maintain this polisher is $13,500. If the opportunity cost of capital is 12%, and the polisher’s expected useful life is five years, what is the unit’s equivalent annual cost? A. $18,438 B. $48,664 C. $22,976 D. $66,464 ____ 9. A five-year investment project has annual after-tax cash flows of $60,000. If the project’s annual depreciation charge is $25,700, the project’s hurdle rate is 13.9%, and the firm’s WACC is 15.5%, by how much would the project’s NPV change if none of the project’s assets were depreciable? A. NPV would increase by $85,140. B. NPV would decrease by $88,443. C. NPV is not affected by changes in annual depreciation expense. D. The answer cannot be determined from the information provided. ____ 10. If a firm earns the WACC on its entire portfolio of investment projects, then A. all the firm’s investment projects will have a positive NPV. B. bondholders will earn their minimum required return, but shareholders will not. C. none of the firm's investment projects will have a negative NPV. D. all the firm's investors will earn their minimum required return. Business Finance 620 CH07-08-09-12 Practice Problems 3 ____ 11. At current prices and a 13.7% hurdle rate, a seven-year R&D project's NPV is $187,460. By what minimum amount must the initial cost of the project change before management can justify waiting three years to invest? Assume the project’s annual after-tax cash flows will remain unchanged in the future, and the firm’s marginal income tax rate is 35%. A. The initial cost must increase by $81,685. B. The initial cost must decrease by $77,046. C. The initial cost must decrease by $88,083. D. The initial cost must decrease by $59,926. ____ 12. A commercial loader currently costs $14,600 annually to operate and maintain. What is the most managers should pay today to replace this machine with one expected to last four years and cost only $4,750 a year to operate and maintain? The current machine should last another four years. The hurdle rate for investment decisions of this sort is 15%, and the firm’s marginal tax bracket is 35%. A. $13,561 B. $41,683 C. $28,122 D. $39,400 ____ 13. Project A has a profitability index of 0.89 and a 12.5% hurdle rate. Project B has profitability index of 1.67 and a 10.7% hurdle rate. Project C has profitability index of 1.45 and a 13.6% hurdle rate. Project A is three years in length. Projects B and C are both five years. If all three projects have the same initial investment cost, which project has the highest NPV? A. Project A B. Project B C. Project C D. The answer cannot be determined from the information provided. ____ 14. At economic breakeven, a seven-year R&D project has annual after-tax cash flows of $75,000. If the project’s hurdle rate is 14%, its payback ratio is 4.29, and the annual rate of inflation is 3.25%, which of the following statements concerning this project is correct? A. The project’s real IRR is less than 14%. B. The project’s nominal NPV is negative. C. The project’s nominal IRR is zero, D. The project’s initial investment cost is $525,000. ____ 15. TECHNO-GROW Corporation is financed with 60% common equity and 40% long-term debt. The yield to maturity on the firm’s debt portfolio is 12.0% annually (pre-tax). The firm's common stock trades at $15.78 a share, and paid an annual cash dividend today of $1.45 a share. The board has committed the firm to annual dividend growth of 4.5% for the long haul. The firm’s marginal income tax bracket is 34%, and its asset beta is 1.25. What is the firm's WACC? A. 11.38% B. 13.84% C. 11.63% D. 18.90% Bill ExamView Pro - BFIN 620 CH07-08-09-12 Practice Problems NEW.tst