1.Archer Daniels Midland Company is considering buying a new farm that it plans to operate for 10 years. The farm will require an initial investment of $11.90 million. This investment will consist of $2.20 million for land and $9.70 million for trucks and other equipment. The land, all trucks, and all other equipment is expected to be sold at the end of 10 years at a price of $5.08 million, $2.12 million above book value. The farm is expected to produce revenue of $2.05 million each year, and annual cash flow from operations equals $1.89 million. The marginal tax rate is 35 percent, and the appropriate discount rate is 10 percent. Calculate the NPV of this investment.
2. Bell Mountain Vineyards is considering updating its current manual accounting system with a high-end electronic system. While the new accounting system would save the company money, the cost of the system continues to decline. The Bell Mountain’s opportunity cost of capital is 17.4 percent, and the costs and values of investments made at different times in the future are as follows:
YearCostValue of Future Savings
(at time of purchase)
Calculate the NPV of each choice. (Round answers to the nearest whole dollar, e.g. 5,275.)
The NPV of each choice is:
3. Chip’s Home Brew Whiskey management forecasts that if the firm sells each bottle of Snake-Bite for $20, then the demand for the product will be 15,000 bottles per year, whereas sales will be 89 percent as high if the price is raised 13 percent. Chip’s variable cost per bottle is $10, and the total fixed cash cost for the year is $100,000. Depreciation and amortization charges are $20,000, and the firm has a 30 percent marginal tax rate. Management anticipates an increased working capital need of $3,000 for the year. What will be the effect of the price increase on the firm’s FCF for the year?
4.Capital Co. has a capital structure, based on current market values, that consists of 49 percent debt, 19 percent preferred stock, and 32 percent common stock. If the returns required by investors are 11 percent, 12 percent, and 18 percent for the debt, preferred stock, and common stock, respectively, what is Capital’s after-tax WACC? Assume that the firm’s marginal tax rate is 40 percent.
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