Posted: April 24th, 2016

P11d

Using the time value of money to compute the present and future values of single lump sums and annuities.

Congratulations! You have won a state lottery. The state lottery offers you the following (after-tax) payout options:

Option #1: $13,000,000 after five years

Option #2: $2,300,000 per year for the next five years

Option #3: $12,000,000 after three years

1. Assuming you can earn 6% on your funds, which option would you prefer?

10-39

Multimedia Technology does business in three different business segments: 1) entertainment, 2) publishing/information, and 3) consumer/commercial finance. Results for a recent year were as follows (in millions):

Revenues Operating Income Total Assets

Entertainment $1272 $223 $1120

Publishing/Information $705 $122 $1308

Consumer/Commercial Finance $1235 $244 $924

1. Compute the following for each business segment:

a. Return on sales

b. Capital turnover

c. ROI

2. Comment on the differences in ROI among the business segments. Include reasons for the differences.

11-B4

The general manager of a West Virginia mining company has a chance to purchase a new drill at a total cost of $250,000. The recovery period is 5 years. Additional annual pretax cash inflow from operations is $82,000, the economic life of the drill is 5 years, there is no salvage value, the income tax rate is 35%, and the after-tax required rate of return is 16%.

1. Compute the NPV, assuming MACRS depreciation for tax purposes. Should the company acquire the drill?

2. Suppose the economic life of the drill is 6 years, which means that there will be an $82,000 cash inflow from operations in the sixth year. The recovery period is still 5 years. Should the company acquire the drill? Show computations.

11-48

The Jackson City parks department is considering the purchase of a new, more efficient pool heater for its Moorcroft Swimming Pool at a cost of $15,000. It should save $3,000 in cash operating costs per year. Its estimated useful life is 8 years, and it will have zero disposal value. Ignore taxes.

1. What is the payback time?

2. Compute the NPV if the minimum rate of return desired is 8%. Should the department buy the heater? Why?

3. Using the ARR model, compute the rate of return on the initial investment.

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