Differential Analysis Involving Opportunity Costs Required: 1. Prepare a differe
ID: 2475718 • Letter: D
Question
Differential Analysis Involving Opportunity Costs
Required:
1. Prepare a differential analysis as of October 1, 2014, presenting the proposed operation of the store for the 16 years (Alternative 1) as compared with investing in U.S. Treasury bonds (Alternative 2). If an amount is zero, enter zero "0".
Differential Analysis
Operate Retail Store (Alt. 1) or Invest in Bonds (Alt. 2)
October 1, 2014
Operate Retail Store (Alternative 1)
Invest in Bonds (Alternative 2)
Differential Effect on Income (Alternative 2)
Revenues
Correct 8 of Item 1
Correct 9 of Item 1
Correct 10 of Item 1
Costs:
Costs to operate store
Correct 13 of Item 1
Correct 14 of Item 1
Correct 15 of Item 1
Cost of equipment less residual value
Correct 17 of Item 1
Correct 18 of Item 1
Correct 19 of Item 1
Income (Loss)
Correct 21 of Item 1
Correct 22 of Item 1
Correct 23 of Item 1
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Solution
2. Based on the results disclosed by the differential analysis, should the proposal to operate the retail store be accepted?
SelectYesNoCorrect 1 of Item 2
3. If the proposal is accepted, what would be the total estimated income from operations of the store for the 16 years?
$
1. Prepare a differential analysis as of October 1, 2014, presenting the proposed operation of the store for the 16 years (Alternative 1) as compared with investing in U.S. Treasury bonds (Alternative 2). If an amount is zero, enter zero "0".
Differential Analysis
Operate Retail Store (Alt. 1) or Invest in Bonds (Alt. 2)
October 1, 2014
Operate Retail Store (Alternative 1)
Invest in Bonds (Alternative 2)
Differential Effect on Income (Alternative 2)
Revenues
$Correct 8 of Item 1
$Correct 9 of Item 1
$Correct 10 of Item 1
Costs:
Costs to operate store
Correct 13 of Item 1
Correct 14 of Item 1
Correct 15 of Item 1
Cost of equipment less residual value
Correct 17 of Item 1
Correct 18 of Item 1
Correct 19 of Item 1
Income (Loss)
$Correct 21 of Item 1
$Correct 22 of Item 1
$Correct 23 of Item 1
Explanation / Answer
1. DIFFERENTIAL ANALYSIS:
_______________________________________________________________________________________
RETAIL STORE (ALT.1) INVEST IN BONDS (ALT.2) DIFF.EFFECT
YEARLY REVENUE (FROM 1 TO 8 YEARS) $85,000
LESS: OPERATING COST PER ANNUM 58,000
YEARLY REVENUE FOR 9 TO 16 YEARS 73,000
LESS: YEARLY OPERTING COST 58,000
YEARLY REVENUE FOR 9 TO 16 YEARS 15,000
TOTAL REVENUE FOR 9 TO 16 YEARS (15,000 X 8) 120,000
TOTAL REVENUE FOR 1 TO 16 YEARS ( 216,000+120,000) 336,000
2. INCOME FROM OPERATING STORE :
TOTAL REVENUE 336,000
LESS: COST OF EQUIPMENT (180,000 - 15,000) 165,000
INCOME 171,000
3. COST OF BONDS I.E PRESENT VALUE OF BOND = FUTURE VALUE/(1+R)N
= 180,000/(1+0.06)16
= 180,000/2.54
= $70,866
4. INCOME FROM BOND = FUTURE MATURITY VALUE - PRESENT VALUE OF BOND
= 180,000 - 70,866 = 109.134
5. DEPRECIAITON IS NOT CONSIDERED AS THERE IS NO TAX ADVANTAGE
6. SINCE, COST OF CAPITAL IS NOT GIVEN, FUTURE CASH FLOWS ARE COMPARED
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