Please answer the following finance questions. PLEASE SHOW AND EXPLAIN ALL WORK!
ID: 2661265 • Letter: P
Question
Please answer the following finance questions. PLEASE SHOW AND EXPLAIN ALL WORK!
1. Templeton Corp. plans to buy a piece of construction equipment for $200,000 and depreciate it fully over 5 years using a straight-line method. However, it plans to use it for 7 years and then sell it for an unknown amount. The equipment will save $45,000 annually, before taxes. The discount rate in this case is 12% and the income tax rate is 33%. Find the resale value of the equipment after 7 years in order for Templeton to break even.
2. S. Davis Hospital, a non-profit entity, wants to buy a machine for $135,000, which will run for 6 years. The savings from the machine are uncertain, with an expected value of $35,000 per year and a standard deviation of $10,000. The hospital uses 10% as the discount rate and it does not pay any income taxes. Find the probability that the machine will be profitable (that is its NPV > 0). Should the hospital buy the machine?
3. Taleb Corp. is planning to acquire a machine at a cost of $120,000. The following table shows the expected life of the machine :
Probability_________Expected Life
15%________________4 years
20%________________5 years
65%________________6 years
The company will depreciate the machine on a straight-line basis with a life of 4 years, with no residual value. While the machine is in operation, it will generate a pretax income of $32,000 annually. The tax rate of Taleb is 31% and it uses a discount rate of 10%. Should Taleb buy the new machine?
4. Damodaran Corp. is considering the purchase of a new machine that has an expected life of 5 years with a standard deviation of 2 years. The machine will cost $45,000 and will generate a pre-tax income of $14,000 annually. The tax rate of Damodaran is 32% and its cost of capital is 13%. Damodaran will depreciate the machine on a straight-line basis over 5 years with no residual value.
(a) Calculate the probability that the machine will have a life of between 4 and 7 years.
(b) Is the machine acceptable if it runs for 6 years?
Explanation / Answer
1).
depreciation per year = 200000/5 = $40000
Profit after tax and depreciaition for year 1 to 5 = (45000-40000)*(1-.33) = 3350
cash flow for year 1 to 5 = 3350+40000 = $43350
profit after tax for year 6 and 7 = 45000*(1-.33) = $30150
cash flow for year 6 = $30150
let its salvage value = x
cash flow for yr 7 = $30150+x
Now, present value of all the future cash flow is
PV = (43350/1.12)+(43350/1.12^2)+(43350/1.12^3)+(43350/1.12^4)+(43350/1.12^5)+(30150/1.12^6)+(30150/1.12^7)+(x/1.12^7)
PV = 185180.30+(x/1.12^7)
for break even
PV = initial invesntment
200000 = 185180.30+(x/1.12^7)
X= salvage value = (200000-185180.30)*1.12^7 = $32761.63
2).
answer is:
Let x be the profit or saving
NPV >0
135000<(x/1.1)+(x/1.1^2)+(x/1.1^3)+(x/1.1^4)+(x/1.1^5)+(x/1.1^6)
135000<xPVIFA(10,6)
135000<x*4.3553
x>$30996.7166
z value for x=$30996.7166 = (30996.7166-35,000)/10,000 = -.4003
p value for z>-.4003 = .344
Probability that NPV >0 =.344
the hospital should buy the machine
Depreciation per year for 4 years = 120000/4 = $30000
cash flow for year 1 to 4= (32000-30000)*.69+30000 = $31380
cash flow for year 5 to 6 = 32000*.69 = $22080
let expected life is 4 year
PV = 31380*PVIFA(10,4) = 31380*3.1699 = $ 99471.46
let expected life is 5 year
PV = 99471.46+(22080/1.1^5) = $113181.40
let expected life is 6 year
PV = 113181.40+(22080/1.1^6) = $125644.98
expected PV = .15*99471.46+.2*113181.40+.65*125644.98 = $119226.236
expected PV<initial cost i.e 120000
so he should not buy the machine
4)
(a)
z value for 4 year = 4-5)/2 = -.5
Z value for 7 year = (7-5)/2 = 1
P(-.5<Z<1) = .8413-.3085 = 0.5328
(b)
if machine run for 6 years
Depreciation per year till 5 years = 45000/5 = $9000
Cash flow for year 1 to 5 = (14000-9000)*.68+9000 = $12400
cash flow for year 6 = (14000*.68) = $9520
PV of all cash flow = 12400*PVIFA(13,5)+(9520/1.13^6) = 12400*3.5172+4572.63 = $48185.91
yes as PV > intital purchase cost so he should buy the machine