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Cash Flow Analysis and NPV

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Lou Lewis, the president of Lewisville Company has asked you to give him an analysis of the best use of a warehouse the company owns.

a. Lewisville Company currently is leasing the warehouse to another company for $5000 per month on a year-to-year basis.
b. The warehouse's estimated sales value is $200,000. A commercial Realtor believes that the price is likely to remain unchanged in the near future. The building originally cost $60,000 and is being depreciated at $1,500 annually. It's current net book value is $7,500.
c. Lewisville Company is seriously considering converting the warehouse into a factory outlet for furniture. The remodeling will cost $100,000 and will be modest because the major attraction will be rock-bottom prices. The remodeling will be depreciated over the next five years using the double-declining balance method.
d. The inventory, cash, and receivables needed to open and sustain the factory outlet would be $600,000. This total is fully recoverable whenever operations terminate.
e. Lou is fairly certain that the warehouse will be condemned in ten years to make room for a new highway. The firm most likely would receive $200,000 from the condemnation.
f. Estimated operating data, exclusive of depreciation, are
SALES $900,000
OPERATION EXPENSES $500,000
g. Nonrecurring sales promotion costs at the beginning of year 1 are expected to be $100,000.
h. Nonrecurring termination costs at the end of year 5 are $50,000.
i. The minimum annual rate of return desired is 14 percent. The company is in the 40 percent tax bracket.

Required:

1. Show how you would handle the individual items in determining whether the company should continue to lease the space or convert it to a factory outlet. Use the company's analysis form, which is set up as follows.

(see chart template in attached file)

Identify any item that is irrelevant.

2. After analyzing all relevant data, compute the Net Present Value. Indicate which course of action, based only on these data, should be taken.

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The investment decisions of a firm are generally known as the capital budgeting, or capital expenditure decisions. The firm's investment decisions would generally include expansion, acquisition, modernization and replacement of the long-term assets. Sale of a division or business (divestment) is also as an investment decision.
Decisions like the change in the methods of sales ...

Solution Summary

This provides the steps to calculate the Cash Flow Analysis and NPV.

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Cash Flow analysis, NPV and IRR to evaluate replacement of existing machine

A company is considering the replacement of an existing machine. Develop the relevant cash flows to analyze the proposed replacement. Determine the net present value, the IRR of the proposal and make a recommendation to accept or reject the replacement proposal. What is the highest cost of capital that the firm could have and still accept the proposal?

New Machine Cost $1.2 million
Installation Cost $150,000.00
Can be sold for $200,000.00 net of removal and clean up costs at the end of 5 years
Will be depreciated using MACRS using 5 yr recovery
Should reduce operating costs by $350,000 per year

Existing Machine ( is 2 years old)
Existing Machine ( is 2 years old) can be sold for 185000 before taxes
Cost New $800,000.00
Book Value $384,000.00
Remaining Useful Life 5 years
Depreciated under MACRS using 5 year recovery
Final 4 years of depreciation remaining
If it is held for 5 more years the machines market value will be $0.00

An increased investment in net working capital of $25,000.00 will be needed to support operations of the new machine. Firm has a 9% cost of capital and is subject to 40% tax rate.

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