Question

EYK12-1. Business Decision Case New Haven Corporation recently identified an investment opportunity involving the purchase of a patent that will permit the company to modify its line of CD recorders. The patent's purchase price is $720,000 and the legal protection it provides will last for five more years; there is no salvage value. However, after preparing the capital expenditure analysis below, New Haven's treasurer has recommended to the company's capital budgeting committee that the investment be rejected. Brad Decker, chairperson of the capital budgeting committee, finds it diffi- cult to accept the treasurer's analysis because he feels intuitively" that the investment is attractive. For this reason, he has retained you to review the treasurer's analysis and recommendation. You are provided with the following data and summary of the treasurer's analysis: 1. Required investment: $720,000 cash for the patent to be amortized on a straight-line basis, five-year useful life, with a zero salvage value. 2. Projected cash revenue and operating expenses: Year Cash Revenue 3 .. Cash Expenses $240,000 200,000 170,000 80,000 50,000 $740,000 $ 620,000 560,000 400,000 250,000 200,000 $2,030,000 .. 5. 3. Source of capital: New Haven plans to raise 10% of the needed capital by issuing bonds, 30% by issuing stock, and the balance from retained earnings. For these sources, the capital cost rates are 8%, 9%, and 10%, respectively. New Haven has a policy of seeking a return equal to the weighted average cost of capital plus 2.5 percentage points as a "buffer margin" for the uncertainties involved.

I think and hope I got the part B and the first part of C correct but I need help figuring out the second part of C. Any help is appreciated.

Answer 1

Requirement C-2

Computation of discount rate to be used
Weighted Average Cost of capital (as determined in (b))	9.50%
Revised Buffer Margin	7.50%
Therefore, Revised cutoff rate	17.00%
Present Value calculations
Year (N)	After Tax Cash Flow (FV)	i/Y	Factor	Present Value (PV)
1	309200	17%	0.85470	264273
2	295200	17%	0.73050	215644
3	204200	17%	0.62440	127502
4	162200	17%	0.53370	86566
5	148200	17%	0.45610	67594
Total Present Value				761579
Investment Required				720000
Net Present Value				41579
Recommendation	Invest