Problems on the basis of the topic
Accounting Principles: Managerial Accounting
Problem A Hamlet Company is considering the purchase of a new machine that would cost USD 300,000 and would have an estimated useful life of 10 years with no salvage value. The new machine is expected to have annual before-tax cash inflows of USD 100,000 and annual before-tax cash outflows of USD 40,000. The company will depreciate the machine using straight-line depreciation, and the assumed tax rate is 40 per cent.
a. Determine the net after-tax cash inflow for the new machine.
b. Determine the payback period for the new machine.
Problem B Graham Company currently uses four machines to produce 400,000 units annually. The machines were bought three years ago for USD 50,000 each and have an expected useful life of 10 years with no salvage value. These machines cost a total of USD 30,000 per year to repair and maintain.
The company is considering replacing the four machines with one technologically superior machine capable of producing 400,000 units annually by itself. The machine would cost USD 140,000 and have an estimated useful life of seven years with no salvage value. Annual repair and maintenance costs are estimated at USD 14,000.Assuming straight-line depreciation and a 40 per cent tax rate, determine the annual additional after-tax net cash inflow if the new machine is acquired.
Problem C Macro Company owns five machines that it uses in its manufacturing operations. Each of the machines was purchased four years ago at a cost of USD 120,000. Each machine has an estimated life of 10 years with no expected salvage value. A new machine has become available. One new machine has the same productive capacity as the five old machines combined; it can produce 800,000 units each year. The new machine will cost USD 648,000, is estimated to last six years, and will have a salvage value of USD 72,000. A trade-in allowance of USD 24,000 is available for each of the old machines. These are the operating costs per unit:
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Five old Machines
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New Machines
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Repairs
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$ 0.6796
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$ 0.0856
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Depreciation
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0.1500
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0.2400
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Power
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0.1890
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0.1036
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Other operating costs
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0.1620
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0.0496
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$ 1.1806
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$ 0.4788
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Ignore federal income taxes. Use the payback period method for (a) and (b).Ignore federal income taxes. Use the payback period method for (a) and (b).
a. Do you recommend replacing the old machines? Support your answer with computations. Disregard all factors except those reflected in the data just given.
b. If the old machines were already fully depreciated, would your answer be different? Why?
c. Using the net present value method with a discount rate of 20 per cent, present a schedule showing whether or not the new machine should be acquired.
Problem D Span Fruit Company has used a particular canning machine for several years. The machine has a zero salvage value. The company is considering buying a technologically improved machine at a cost of USD 232,000. The new machine will save USD 50,000 per year after taxes in cash operating costs. If the company decides not to buy the new machine, it can use the old machine for an indefinite time by incurring heavy repair costs. The new machine would have an estimated useful life of eight years.
a. Compute the time-adjusted rate of return for the new machine.
b. Management thinks the estimated useful life of the new machine may be more or less than eight years. Compute the time-adjusted rate of return for the new machine if its useful life is (1) 5 years and (2) 12 years, instead of 8 years.
c. Suppose the new machine's useful life is eight years, but the annual after-tax cost savings are only USD 45,000. Compute the time-adjusted rate of return.
d. Assume the annual after-tax cost savings from the new machine will be USD 35,000 and its useful life will be 10 years. Compute the time-adjusted rate of return.
Problem E Merryll, Inc., is considering three different investments involving depreciable assets with no salvage value. The following data relate to these investments:
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Investment
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Initial cash
Outlay
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Expected before-tax net
Cash inflow per year
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Expected after-tax net
Cash inflow per year
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Life of proposal
(years)
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1
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$ 140,000
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$ 37,333
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$ 28,000
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10
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2
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240,000
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72,000
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48,000
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20
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3
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360,000
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89,333
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68,000
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10
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The income tax rate is 40 per cent. Management requires a minimum return on investment of 12 per cent.
Rank these proposals using the following selection techniques:
a. Payback period.
b. Unadjusted rate of return.
c. Profitability index.
d. Time-adjusted rate of return.
Problem F Slow to Change Company has decided to computerize its accounting system. The company has two alternatives-it can lease a computer under a three-year contract or purchase a computer outright.
If the computer is leased, the lease payment will be USD 5,000 each year. The first lease payment will be due on the day the lease contract is signed. The other two payments will be due at the end of the first and second years. The lessor will provide all repairs and maintenance.
If the company purchases the computer outright, it will incur the following costs:
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Acquisition cost
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$ 10,500
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Repairs and maintenance:
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First year
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300
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Second year
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250
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Third year
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350
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The computer is expected to have only a three-year useful life because of obsolescence and technological advancements. The computer will have no salvage value and be depreciated on a double-declining-balance basis. Slow to Change Company's cost of capital is 16 per cent.
a. Calculate the net present value of out-of-pocket costs for the lease alternative.
b. Calculate the net present value of out-of-pocket costs for the purchase alternative.
c. Do you recommend that the company purchase or lease the machine?
Problem G Van Gogh Sports Company is trying to decide whether to add tennis equipment to its existing line of football, baseball, and basketball equipment. Market research studies and cost analyses have provided the following information:
Van Gogh will need additional machinery and equipment to manufacture the tennis equipment. The machines and equipment will cost USD 450,000, have an estimated 10-year useful life, and have a USD 10,000 salvage value. Sales of tennis equipment for the next 10 years have been projected as follows:
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Years
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Sales in dollars
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1
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$ 75,000
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2
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112,500
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3
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168,750
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4
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187,500
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5
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206,250
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6 – 10 (each year)
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225,000
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Variable costs are 60 per cent of selling price, and fixed costs (including straight-line depreciation) will total USD 88,500 per year.
The company must advertise its new product line to gain rapid entry into the market. Its advertising campaign costs will be:
Years Annual advertising cost
1 - 3 $ 75,000
4 - 10 37,500
The company requires a 14 per cent minimum rate of return on investments.
Using the net present value method, decide whether or not Van Gogh Sports Company should add the tennis equipment to its line of products. (Ignore federal income taxes.) Round to the nearest dollar.
Problem H Jordan Company is considering purchasing new equipment costing USD 2,400,000. Jordan estimates that the useful life of the equipment will be five years and that it will have a salvage value of USD 600,000. The company uses straight-line depreciation. The new equipment is expected to have a net cash inflow (before taxes) of USD 258,000 annually. Assume that the tax rate is 40 per cent and that management requires a minimum return of 14 per cent.Using the net present value method, determine whether the equipment is an acceptable investment.
Problem I Penny Company has an opportunity to sell some equipment for USD 40,000. Such a sale will result in a tax-deductible loss of USD 4,000. If the equipment is not sold, it is expected to produce net cash inflows after taxes of USD 8,000 for the next 10 years. After 10 years, the equipment can be sold for its book value of USD 4,000. Assume a 40 per cent federal income tax rate. Management currently has other opportunities that will yield 18 per cent. Using the net present value method, show whether the company should sell the equipment. Prepare a schedule to support your conclusion