Question

1. Acquired developed technology is expected to generate after-tax operating income of $50,000 in the first year and grow at a rate of 5% over the next two years. Depreciation expense included in operating expenses is expected to be $5,000 in the first year, growing at a rate of 3% over the next two years. The value of acquired developed technology is estimated as the present value of operating cash flow over the first three years. The appropriate discount rate is 20%, and cash flows are assumed to occur at year-end for purposes of valuing acquired developed technology.
   
   Which value is closest to the amount at which the acquired developed technology should be reported on the acquiring company's balance sheet?

   	A.	$ 85,000
   	B.	$100,000
   	C.	$143,000
   	D.	$121,000

Answer 1

Computation of Operating Profits
Year	Operating Profits for Prev.Year	Increase %	Increase	Operating Profits for Curr.Year
1				$50,000
2	$50,000	0.05	$2,500	$52,500
3	$52,500	0.05	$2,625	$55,125
Computation of Depreciation
Year	Depreciation for Prev.Year	Increase %	Increase	Depreciation for Curr.Year
1				$5,000
2	$5,000	0.03	$150	$5,150
3	$5,150	0.03	$155	$5,305
Computation of Operating Cash Flow
Year	Operating Profits	Depreciation	Operating Cash Flow
1	$50,000	$5,000	$55,000
2	$52,500	$5,150	$57,650
3	$55,125	$5,305	$60,430
Computation of Present Value of Operating Cash Flow
Year	Operating Cash Flow	PVF formula	PVF @ 20%	PV of Cash Flow
1	$55,000	1/(1.20)^1	0.8333	$45,832
2	$57,650	1/(1.20)^2	0.6944	$40,032
3	$60,430	1/(1.20)^3	0.5787	$34,971
Present Value of Operating Cashflow				$120,835
Present Value of Cashflow = $ 120,835 ~ $ 121,000
Answer : D. $ 121,000