Question

Companies invest in expansion projects with the expectation of increasing the earnings of its business. Consider the case of Yeatman Co.: Yeatman Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs: Unit sales Sales price Variable cost per unit Fixed operating costs except depreciation Accelerated depreciation rate Year 1 5,500 $42.57 $22.83 $66,750 33% Year 2 5,200 $43.55 $22.97 $68,950 45% Year 3 5,700 $44.76 $23.45 $69,690 15% Year 4 5,820 $46.79 $23.87 $68,900 7% Determine what the project's net present value (NPV) would be when using accelerated depreciation. This project will require an investment of $10,000 in new equipment. The equipment will have no salvage value at the end of the project's four-year life. Yeatman pays a constant tax rate of 40%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project's net present value (NPV) would be when using accelerated depreciation. O $82,622 $99,146 $74,360 $ 66,098 Now determine what the project's NPV would be when using straight-line depreciation. $107,186 $82,451 $94,819 Using the depreciation method will result in the highest NPV for the pil $103.064 No other firm would take on this project if Yeatman turns it down. How much should Yeatman reduce the NPV of this project if it discovered that this project would reduce one of its division's net after-tax cash flows by $400 for each year of the four-year project? $1,365 $931 $1,055 $1,241

please help with all the questions

Answer 1

1. $82,622

2. $82,451

3. Accelerated depreciation method

4. $1,241

Please refer to below spreadsheet for calculation and answer. Cell reference also provided.

A в D E F G Initial Cost WACC C $10,000.00 11% 40% 117 tax rate 5 6 Unit sales Sales price Variable cost per unit Fixed operating costs Accelerated depreciation rate Year 1 5,500 $42.57 $22.83 $66,750.00 33% Year 2 5,200 $43.55 $22.97 $68,950.00 45% Year 3 5,700 $44.76 $23.45 $69,690.00 15% Year 4 5,820 $46.79 $23.87 $68,900.00 7% 9 10 11 12 13 14 1 Sales Variable cost Fixed oeprating cost Accelerated depreciation EBT |Тах Net Income Operating Cash Flow $234,135 $125,565 $66,750 $3,300 $38,520 $15,408 $23,112 $26,412 $226,460 $119,444 $68,950 $4,500 $33,566 $13,426 $20,140 $24,640 $255,132 $133,665 $69,690 $1,500 $50,277 $20,111 $30,166 $31,666 $272,318 $138,923 $68,900 $700 $63,794 $25,518 $38,277 $38,977 16 17 19 20 21 NPV $82,622 23 24 26 27 28 29 2 Sales Variable cost Fixed oeprating cost Straight-line depreciation EBT |Тах Net Income Operating Cash Flow $234,135 $125,565 $66,750 $2,500 $39,320 $15,728 $23,592 $26,092 $226,460 $119,444 $68,950 $2,500 $35,566 $14,226 $21,340 $23,840 $255,132 $133,665 $69,690 $2,500 $49,277 $19,711 $29,566 $32,066 $272,318 $138,923 $68,900 $2,500 $61,994 $24,798 $37,197 $39,697 32 NPV $82,451 33 3 Using the Accelerated depreciation method will result in the highest NPV 4 Lost ATCF each year Reduced NPV $400.00 $1,241 38

Cell reference -

Initial Cost WACC tax rate 10000 0.11 0.4 Year 1 Year 2 Year 3 Year 4 Unit sales Sales price Variable cost per unit Fixed operating costs Accelerated depreciation rate 5500 42.57 22.83 66750 0.33 5200 43.55 22.97 68950 0.45 5700 44.76 23.45 69690 0.15 5820 46.79 23.87 68900 0.07 10 12 13 14 15 16 17 18 Sales Variable cost Fixed oeprating cost Accelerated depreciation EBT | Тах Net Income Operating Cash Flow =C6*C7 =C6*08 =C9 =$C$1*C10 =C12-C13-C14-C15 =C16*$C$3 =C16-C17 =C18+C15 =D6*D7 =D6*D8 =D9 =$C$1*D10 =D12-D13-D14-D15 =D16*$C$3 =D16-D17 =D18+D15 =E6*E7 =E6*E8 =E9 =$C$1*E10 =E12-E13-E14-E15 =E16*$C$3 =E16-E17 =E18+E15 =F6*F7 =F6*F8 =F9 =$C$1*F10 =F12-F13-F14-F15 =F16*$C$3 =F16-F17 F18+F15 20 21 NPV =NPV(C2,C19:F19)-C1 23 2 24 Sales Variable cost Fixed oeprating cost Straight-line depreciation 26 27 28 =C12 =C13 =C14 =$C$1/4 =C23-C24-C25-C26 =C27*$C$3 =C27-C28 =C29+C26 =D12 =D13 =D14 =$C$1/4 =D23-D24-D25-D26 =D27*$C$3 =D27-D28 =D29+D26 =E12 =E13 =E14 =$C$1/4 =E23-E24-E25-E26 =E27*$C$3 =E27-E28 =E29+E26 =F12 =F13 =F14 =$C$1/4 =F23-F24-F25-F26 =F27*$C$3 =F27-F28 =F29+F26 EBT Tax Net Income Operating Cash Flow 30 31 32 NPV =NPV(C2,C30:F30)-C1 33 34 3 Using the Accelerated depreciation method will result in the highest NPV 35 36 4 37 38 Lost ATCF each year Reduced NPV 400 =PV(C2,4,-C36,,0)

Hope this will help, please do comment if you need any further explanation. Your feedback would be highly appreciated.