Tags
#analyst-notes #cfa-level-1 #corporate-finance #reading-35-capital-budgeting #study-session-10 #subject-3-investment-criteria
Question
HC Ltd. purchased a machine 4 years ago at a cost of $100,000. The machine had an expected life of 10 years at the time of the purchase and an expected market value of$5,000 at the end of the 10 years. It is being depreciated by the straight-line method toward a salvage value of $25,000; that is, depreciation is$7,500 per year. The machine can be sold now for $25,000. A new machine can be purchased for$150,000 including installation costs. During its 6-year life, it will reduce pre-tax cash operating expenses by $30,000 per year. Sales are not expected to change. At the end of its useful life, this machine is estimated to be worth$50,000. Straight-line depreciation will be used to depreciate the machine to a salvage value of $30,000; that is depreciation is$20,000 per year. The firm's tax rate is 30%. The appropriate discount rate is 13%.

What is the NPV of the investment?

A. $1,892 B.$2,573
C. $3,290 Answer Correct Answer: C The initial investment outlay is$111,500. The net operating cash flows are $24,750 (years 1-6) and the total termination cash flow is$33,000 in year 6. The NPV of these cash flows discounted at 13% is $3,290. Tags #analyst-notes #cfa-level-1 #corporate-finance #reading-35-capital-budgeting #study-session-10 #subject-3-investment-criteria Question HC Ltd. purchased a machine 4 years ago at a cost of$100,000. The machine had an expected life of 10 years at the time of the purchase and an expected market value of $5,000 at the end of the 10 years. It is being depreciated by the straight-line method toward a salvage value of$25,000; that is, depreciation is $7,500 per year. The machine can be sold now for$25,000. A new machine can be purchased for $150,000 including installation costs. During its 6-year life, it will reduce pre-tax cash operating expenses by$30,000 per year. Sales are not expected to change. At the end of its useful life, this machine is estimated to be worth $50,000. Straight-line depreciation will be used to depreciate the machine to a salvage value of$30,000; that is depreciation is $20,000 per year. The firm's tax rate is 30%. The appropriate discount rate is 13%. What is the NPV of the investment? A.$1,892
B. $2,573 C.$3,290
?

Tags
#analyst-notes #cfa-level-1 #corporate-finance #reading-35-capital-budgeting #study-session-10 #subject-3-investment-criteria
Question
HC Ltd. purchased a machine 4 years ago at a cost of $100,000. The machine had an expected life of 10 years at the time of the purchase and an expected market value of$5,000 at the end of the 10 years. It is being depreciated by the straight-line method toward a salvage value of $25,000; that is, depreciation is$7,500 per year. The machine can be sold now for $25,000. A new machine can be purchased for$150,000 including installation costs. During its 6-year life, it will reduce pre-tax cash operating expenses by $30,000 per year. Sales are not expected to change. At the end of its useful life, this machine is estimated to be worth$50,000. Straight-line depreciation will be used to depreciate the machine to a salvage value of $30,000; that is depreciation is$20,000 per year. The firm's tax rate is 30%. The appropriate discount rate is 13%.

What is the NPV of the investment?

A. $1,892 B.$2,573
C. $3,290 Answer Correct Answer: C The initial investment outlay is$111,500. The net operating cash flows are $24,750 (years 1-6) and the total termination cash flow is$33,000 in year 6. The NPV of these cash flows discounted at 13% is \$3,290.
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dy>NPV measures the dollar benefit of the project to shareholders. However, it does not measure the rate of return of the project, and thus cannot provide "safety margin" information. Safety margin refers to how much the project return could fall in percentage terms before the invested capital is at risk.<body><html>

#### Original toplevel document

Subject 3. Investment Decision Criteria
on that capital. If a firm takes on a project with a positive NPV, the position of the stockholders is improved. Decision rules: The higher the NPV, the better. Reject if NPV is less than or equal to 0. <span>NPV measures the dollar benefit of the project to shareholders. However, it does not measure the rate of return of the project, and thus cannot provide "safety margin" information. Safety margin refers to how much the project return could fall in percentage terms before the invested capital is at risk. Assuming the cost of capital for the firm is 10%, calculate each cash flow by dividing the cash flow by (1 + k) t where k is the cost of capital and t is the year number.

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