Explore BrainMass
Share

Explore BrainMass

    NPV and IRR

    This content was COPIED from BrainMass.com - View the original, and get the already-completed solution here!

    Problem 1: Management is considering purchasing an asset for $20,000 that would have a useful life of 10 years and no salvage value. For tax purposes, the entire original cost of the asset would be depreciated over 10 years using the straight-line method. The asset would generate annual net cash inflows of $12,000 throughout its useful life. The project would require additional working capital of $6,000, which would be released at the end of the project. The company's tax rate is 40% and its discount rate is 13%.
    Questions:
    1. What is the annual NET (after tax) Cash Inflows? (4 points)
    2. What is the annual Depreciation Deduction? (4 points)
    3. What is the Net Present Value for this project? (12 points)

    Problem 2:
    ABC Outlet Store is looking for a new location near a shopping mall. It is considering purchasing a building rather than leasing, as it has done in the past. Three retail buildings near a new mall are available but each has its own advantages and disadvantages. The owner of the company has completed an analysis of each location that includes considerations for the time value of money. The information is as follows
    Location A Location B Location C
    Internal rate of return 13% 17% 20%
    Net present value $25,000 $40,000 $20,000

    The owner does not understand how the location with the highest percentage return has the lowest net present value.
    Question: Explain to the owner what is (are) the probable cause(s) of the comparable differences (10 points)

    © BrainMass Inc. brainmass.com October 9, 2019, 8:34 pm ad1c9bdddf
    https://brainmass.com/business/capital-budgeting/npv-and-irr-155653

    Attachments

    Solution Preview

    Problem 1: Management is considering purchasing an asset for $20,000 that would have a useful life of 10 years and no salvage value. For tax purposes, the entire original cost of the asset would be depreciated over 10 years using the straight-line method. The asset would generate annual net cash inflows of $12,000 throughout its useful life. The project would require additional working capital of $6,000, which would be released at the end of the project. The company's tax rate is 40% and its discount rate is 13%.
    Questions:
    1. What is the annual NET (after tax) Cash Inflows? (4 points)

    Inflows before depreciation and taxes 12000
    Less Depreciation -2000
    Inflows before taxes 10000
    Less taxes 4000
    Inflows after taxes 6000
    Add Depreciation 2000
    Annual net after tax Cash Inflows 8000

    2. What is the annual Depreciation Deduction? (4 points)
    Depreciation = Cost of the Asset / Life of the Asset
    = 20000/10
    2000

    3. What is the Net Present Value for this project? (12 points)

    Estimating Initial cash outflows

    Investment in Assest: 20000
    Add additional Working capital 6000
    Total 26000

    Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
    Net Cash ...

    Solution Summary

    This discusses the concept of NPV and IRR through practical cases.

    $2.19