Lander Company has an opportunity to pursue a capital budgeting project with a f
ID: 2528568 • Letter: L
Question
Lander Company has an opportunity to pursue a capital budgeting project with a five-year time horizon. After careful study, Lander estimated the following costs and revenues for the project:
The piece of equipment mentioned above has a useful life of five years and zero salvage value. Lander uses straight-line depreciation for financial reporting and tax purposes. The company’s tax rate is 40% and its after-tax cost of capital is 10%. When the project concludes in five years the working capital will be released for investment elsewhere within the company
Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.
Required:
1. Calculate the annual income tax expense for each of years 1 through 5 that will arise as a result of this investment opportunity.
2. Calculate the net present value of this investment opportunity. (Negative amounts should be indicated by a minus sign. Round your final answer to nearest whole dollar.)
Cost of equipment needed $ 420,000 Working capital needed $ 79,000 Repair the equipment in two years $ 27,500 Annual revenues and costs: Sales revenues $ 540,000 Variable expenses $ 275,000 Fixed out-of-pocket operating costs $ 118,000Explanation / Answer
Year 0 1 2 3 4 5 Incremental cash revenues 540000 540000 540000 540000 540000 Incremental expenses Variable cost 275000 275000 275000 275000 275000 Fixed out of pocket operating costs 118000 118000 118000 118000 118000 Repairs of equipment 27500 27500 Depreciation 84000 84000 84000 84000 84000 Total expenses 477000 504500 477000 504500 477000 Net operating Income 63000 35500 63000 35500 63000 Requirement 1 Tax expense @40% 25200 14200 25200 14200 25200 Net Income 37800 21300 37800 21300 37800 Add : Depreciation on new equipment 84000 84000 84000 84000 84000 Cash flows Equipment purchase -420000 Working capital -79000 79000 Total net cash flows -499000 121800 105300 121800 105300 200800 PVIF@10% 1 0.909090909 0.826446 0.751315 0.683013 0.6209213 Net present value of the project -499000 110727.2727 87024.79 91510.14 71921.32 124681 -13135.47261 Requirement 2 Net present value of the Investment opportunity -13135
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