Stuhut管理团队1

capital budgeting 2
1. In 2003, Porsche unveiled its new sports-utility vehicle (SUV), the Cayenne. With a price
tag of over $40,000, the Cayenne goes from zero to 62 mph in 9.7 seconds. Porsche’s decision
to enter the SUV market was in response to the runaway success of other high-priced SUVs
such as the Mercedes-Benz M-class. Vehicles in this class had generated years of very high
profits. The Cayenne certainly spiced up the market, and Porsche subsequently introduced
the Cayenne Turbo, which goes from zero to 62 mph in 5.6 seconds and has a top speed of
165 mph. The price tag for the Cayenne Turbo? Almost $100,000!
Some analysts questioned Porsche’s entry into the luxury SUV market. The analysts were
concerned not only that Porsche was a late entry into the market, but also that the introduction
of the Cayenne would damage Porsche’s reputation as a maker of high-performance
automobiles.
(a) In evaluating the Cayenne, would you consider the possible damage to Porsche’s reputation
to be erosion?
(b) Porsche was one of the last manufacturers to enter the sports-utility vehicle market.
Why would one company decide to proceed with a product when other companies, at
least initially, decide not to enter the market?
(c) In evaluating the Cayenne, what do you think Porsche needs to assume regarding the
substantial profit margins that exist in this market? Is it likely they will decline as
the market becomes more competitive, or will Porsche be able to maintain the profit
margin because of its image and the performance of the Cayenne?
Solution:
(a) The damage to Porsche’s reputation is definitely a factor the company needed
to consider. If the reputation was damaged, the company would have lost sales
of its existing car lines.
(b) One company may be able to produce at lower incremental cost or market better.
Perhaps Porsche has technology not available to other companies. They may also
be taking advantage of their brand image.
It is also possible that Porsche made a mistake by entering the market.
(c) Porsche should recognize that the outsized profits could dwindle as more products
comes to market and competition becomes more intense.


2. Parker & Stone, Inc., is looking at setting up a new manufacturing plant in South Park
to produce garden tools. The company bought some land six years ago for $5 million in
anticipation of using it as a warehouse and distribution site, but the company has since
decided to rent these facilities from a competitor instead. If the land were sold today, the
company would net $5.4 million. The company wants to build its new manufacturing plant
on this land; the plant will cost $10.4 million to build, and the site requires $650,000 worth
of grading before it is suitable for construction.
What is the proper cash flow amount to use as the initial investment in fixed assets when
evaluating this project? Why?
Solution:
The $5 million acquisition cost of the land six years ago is a sunk cost. The $5.4
million current after-tax value of the land is an opportunity cost if the land is used
rather than sold off. The $10.4 million cash outlay and $650,000 grading expenses
are the initial fixed asset investments needed to get the project going. Therefore, the
proper year zero cash flow to use in evaluating this project is
$5,400,000 + 10,400,000 + 650,000 = $16,450,000
3. A piece of newly purchased industrial equipment costs $847,000 and is classified as sevenyear
property under MACRS. After 5 years, the equipment will be sold for $80,000.
Calculate the annual depreciation allowances and end-of-the-year book values over the 5
years that this equipment will be used. Also, compute the after-tax salvage value (use a
tax rate of 34%).
Solution:
Year Begin book value MACRS Depr End book value
1 $847,000.00 0.1429 $121,036.30 $725,963.70
2 725,963.70 0.2449 207,430.30 518,533.40
3 518,533.40 0.1749 148,140.30 370,393.10
4 370,393.10 0.1249 105,790.30 264,602.80
5 264,602.80 0.0893 75,637.10 188,965.70
ATSV = (1-T) x BTSV + T x EndBV = 117,048.30


4. Down Under Boomerang, Inc., is considering a new three-year expansion project that requires
an initial fixed asset investment of $2.7 million. The fixed asset will be depreciated
straight-line to zero over its three-year tax life, after which time it will be worthless. The
project is estimated to generate $2,400,000 in annual sales, with costs of $960,000. There
are no changes in NWC needs associated with the project.
(a) If the tax rate is 35 percent, what is the OCF for each year of this project?
(b) What is the project’s NPV? (Use a discount rate of 12%.)
Solution:
OCF = (1-T) x (Sales - Costs) + T x Depr = .65 x 1,440,000 + .35 x 900,000 =
1,251,000
0 1 2 3
OCF 1251000 1251000 1251000
NCS -2700000 0 0 0
ChNWC
----- ---------------------------------------
CFFA -2700000 1251000 1251000 1251000
NPV = 304,690.92

5. A five-year project has an initial fixed asset investment of $210,000, an initial NWC investment
of $20,000, and an annual OCF of -$32,000. The fixed asset is fully depreciated over
the life of the project and has no salvage value. NWC is recovered at the end of the project.
If the required return is 15 percent, what is this project’s equivalent annual cost (EAC)?
Solution:
To calculate the EAC of the project, we first need the NPV of the project. Notice
that we include the NWC expenditure at the beginning of the project, and recover
the NWC at the end of the project. The NPV of the project is:
0 1 2 3 4 5
OCF -32000 -32000 -32000 -32000 -32000
NCS -210000
ChNWC -20000 20000
======================================================
CFFA -230000 -32000 -32000 -32000 -32000 -12000
NPV = -327,325.43
To find EAC, use n=5, r=.15, pv=-327,325.43, FV=0, and solve for PMT. You should
get EAC = PMT = 97,646.27

6. Guthrie Enterprises needs someone to supply it with 150,000 cartons of machine screws
per year to support its manufacturing needs over the next five years, and you’ve decided
to bid on the contract. It will cost you $780,000 to install the equipment necessary to
start production; you’ll depreciate this cost straight-line to zero over the project’s life.
You estimate that in five years, this equipment can be salvaged for $50,000. Your fixed
production costs will be $240,000 per year, and your variable production costs should be
$8.50 per carton. You also need an initial investment in net working capital of $75,000
(which will be recovered at the end of the project).
If your tax rate is 35 percent and you require a 16 percent return on your investment, what
bid price should you submit?
Solution:
ATSV = .65 x 50000 = 32,500
0 1 2 3 4 5
OCF ? ? ? ? ?
NCS -780000 32,500
ChNWC -75000 75,000
=========================================
CFFA -855,000 ? ? ? ? ? + 107,500
To find the needed OCF to break even, use your calculator with n=5, PV=-855,000,
FV=107,500, r=16%, and solve for PMT. You should get OCF = PMT = 245,493.51.
Now, using
OCF = (Sales - Costs) x (1 - T) + Depr x T
Depr = 780,000 / 5 = 156,000
Costs = FC + VC x Q = 240,000 + 8.5 x 150,000 = 1,515,000
solve for sales:
Sales = ( OCF - Depr x T + Costs x (1 - T) ) / (1 - T)
= 1,808,682
Or, 1,808,682 / 150,000 = 12.06 per box.