Question

Survey of Accounting Class 24 Packet Semester Case - Cowboy Ice Cream, Inc. (CIC) As we've examined in prior class periods, CIC is currently considering expanding operations. The first expansion plan-which we've worked on in a previous class-calls for the purchase of a physical location, remodeling of that location, and purchase of a freezer. The freezer would cost $4.289, have an estimated useful life of 7 years, and have a salvage value of $300. Purchase of the freezer would allow CIC to use the new building as a retail space. In addition to that opportunity. CIC is also considering purchasing the building, but using it only as a center of operations (rather than as retail space). As a result, CIC would remodel the space, but purchase of the freezer would not be necessary. Instead. CIC would purchase a small ice cream stand. The stand would cost $7,000, have an estimated useful life of 7 years. and have no salvage value. Both options would require additional working capital of $500, which will be recovered at the end of the life of each option. Assume that CIC's cost of capital is 8%. Details about the operating cash flow for each year are below. Purchase stand Purchase freezer $9.000 $12.000 Estimated cash outflow per year Estimated cash inflow: $9.600 $9.676 $9.761 $9.857 $9.965 $10.086 $10,223 $13.390 $13.390 $13,390 $13,390 $13,390 $13,390 Year Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 $13,390 Compute the following for each option: 1. Net present value

Answer 1

		Present Value(PV) of Cash Flow:
		(Cash Flow)/((1+i)^N)
		i=discount rate=Cost of Capital=8%=0.08
		N=Year   of Cash Flow
		ANALYSIS OF FREEZER OPTION
	N	Year	0	1	2	3	4	5	6	7
	a	Cost of freezer	-$4,289
	b	Additional working capital	-$500
	c	Cash inflow per year		$9,600	$9,676	$9,761	$9,857	$9,965	$10,086	$10,223
	d	Annual cash outflow		-$9,000	-$9,000	-$9,000	-$9,000	-$9,000	-$9,000	-$9,000
	e	Salvage value								$300
	f	Release of additional working Capital								$500
	CF=a+b+c+d+e+f	Net Cash Flow	-$4,789	$600	$676	$761	$857	$965	$1,086	$2,023	SUM
		Cumulative Net Cash Flow	-$4,789	-$4,189	-$3,513	-$2,752	-$1,895	-$930	$156	$2,179
	PV=CF/(1.08^N)	Present Value(PV) of Net Cash Flow:	-$4,789	$556	$580	$604	$630	$657	$684	$1,180	$102
1	NPV=Sum of PV	Net Present Value	$102
	2	Internal Rate of Return	8.5%	(Using IRR function of excel over Net cash flow)
	3	Present Value Index=NPV/Initial Outlay	0.0212	(102/4789)
	4	Payback Period =Period at which Cumulative Net Cash Flow=0
		Payback Period =5+(930/1086)=	5.86	Years
		ANALYSIS OF PURCHASE STAND OPTION
	N	Year	0	1	2	3	4	5	6	7
	a	Cost of Stand	-$7,000
	b	Additional working capital	-$500
	c	Cash inflow per year		$13,390	$13,390	$13,390	$13,390	$13,390	$13,390	$13,390
	d	Annual cash outflow		-$12,000	-$12,000	-$12,000	-$12,000	-$12,000	-$12,000	-$12,000
	e	Salvage value								$0
	f	Release of additional working Capital								$500
	CF=a+b+c+d+e+f	Net Cash Flow	-$7,500	$1,390	$1,390	$1,390	$1,390	$1,390	$1,390	$1,890
		Cumulative Net Cash Flow	-$7,500	-$6,110	-$4,720	-$3,330	-$1,940	-$550	$840	$2,730	SUM
	PV=CF/(1.08^N)	Present Value(PV) of Net Cash Flow:	-$7,500	$1,287	$1,192	$1,103	$1,022	$946	$876	$1,103	$29
	NPV=Sum of PV	Net Present Value	$29
	2	Internal Rate of Return	8.11%	(Using IRR function of excel over Net cash flow)
	3	Present Value Index=NPV/Initial Outlay	0.0038	(29/7500)
	4	Payback Period =Period at which Cumulative Net Cash Flow=0
		Payback Period =5+(550/1390)=	5.40	Years
		PURCHASE FREEZER OPTION IS PREFERRED
												F18 ： ༽ * =IRR(F14:M14) K M O I -4,789 $600 $676 $761 -4,789 -4,189 -$3,513 -$2,752 -4,789 $556 $580 $102 8.5%(Using IRR function of excel over Net cash flow) J 5857 -$1,895 $630 ཚེས་ $365 -$330 $657 L $1,086 $156 $684 N $2,023 SUM $2,179 $1,180 $102 $604 F36 X fi =IRR(F32:M32) G H K L M N F -$7,000 $500 $13,390 -$12,000 $13,390 $12,000 $13,390 -$12,000 $13,390 -$12,000 $13,390 -$12,000 $13,390 $12,000 $13,390 -$12,000 $7,500 $1,390 $1,390 $1,390 $7,500 $6,110 -$4,720 -$3,330 -$7,500 $1,287 $1,192 $1,103 $29 8.11%(Using IRR function of excel over Net cash flow) $1,390 -$1,940 $1,022 $1,390 -$550 $946 $1,390 $840 $876 $500 $1,890 $2,730 SUM $1,103 $29 no