FIN 401 Study Guide - Final Guide: Shares Outstanding, Liquidating Distribution, Stock Split
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Suppose you are thinking to replace an old machine with a new one for your business. The old
machine cost you $100,000, and the new one costs $150,000. The new machine will be
depreciated on a three-year MACRS basis. The new machine has a 5-year life and a salvage
value of zero at the end of this period. The old machine was purchased 5 years ago, and it is being depreciated at the rate of $9,000 per
year. Its book value is $55,000, and its salvage value today is $65,000. You estimate that you
will be able to sell the old machine for $10,000 in 5 years, if you decide to not replace it.
The new machine will save you $50,000 per year. The tax rate is 40%, and the required rate of
return is 10%. Based on the NPV and IRR investment criteria, should you replace the old
machine? Should the cost of the old machine be included in your decision? Why or why
not? Calculate the Initial Investment of the project, and the Terminal Cash Flow of the
project.
This was the Excel format that we were given:
Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | ||
Cost Savings | $50,000 | $50,000 | $50,000 | $50,000 | $50,000 | |
Depreciation New | ||||||
Depreciation Old | $9,000 | $9,000 | $9,000 | $9,000 | $9,000 | |
Increm | ||||||
EBIT | ||||||
Taxes | ||||||
NI | ||||||
Year | Year 0 | Year 1 | Year 2 | Year 3 | Year 4 | Year5 |
OCF | ||||||
NCS | ||||||
Change in NWC | ||||||
CCFA | ||||||
NPV | ||||||
IRR | ||||||
Pendergast, Inc., has no debt outstanding and a total market value of $220,000. Earnings before interest and taxes, EBIT, are projected to be $36,000 if economic conditions are normal. If there is strong expansion in the economy, then EBIT will be 18 percent higher. If there is a recession, then EBIT will be 25 percent lower. Pendergast is considering a $125,000 debt issue with an interest rate of 8 percent. The proceeds will be used to repurchase shares of stock. There are currently 11,000 shares outstanding. Pendergast has a tax rate of 35 percent. |
a-1 | Calculate earnings per share (EPS) under each of the three economic scenarios before any debt is issued. (Round your answers to 2 decimal places. (e.g., 32.16)) |
EPS | ||
Recession | $ | |
Normal | $ | |
Expansion | $ | |
a-2 | Calculate the percentage changes in EPS when the economy expands or enters a recession.(Negative amounts should be indicated by a minus sign.) |
Percentage changes in EPS | ||
Recession | % | |
Expansion | % | |
b-1 | Assume that the company goes through with recapitalization. Calculate earnings per share (EPS) under each of the three economic scenarios assuming the company goes through with recapitalization.(Round your answers to 2 decimal places. (e.g., 32.16)) |
EPS | ||
Recession | $ | |
Normal | $ | |
Expansion | $ | |
b-2 | Given the recapitalization, calculate the percentage changes in EPS when the economy expands or enters a recession. (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places. (e.g., 32.16)) |
Percentage changes in EPS | ||
Recession | % | |
Expansion | % | |