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FIN 300 – Homework Assignment #1

Due by 11.59pm on January 29th

This homework assignment is to be submitted electronically via Canvas. If you feel that a question
misses essential information, make a reasonable assumption and clearly state that assumption.
No late homework will be accepted. You are allowed to – and I encourage you to – work together
on homework assignments. However, you must hand in your own individual homework.
Photocopies (or any other form of copies such as pictures taken of someone else’s homework)
are unacceptable. You must show how you obtained all your answers. Homework assignments
are graded pass (1) / fail (0): to pass, you have to attempt 100% of the homework assignment.

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Chapter 2 Problems

#1. Given below is financial information for Sullivan’s Slippery Slides Incorporated.

Sullivan’s Incorporated
Income Statement
For the Years Ended December 31, 2012 and 2011.
2012 2011
Sales $3,550,000 $3,340,000
Cost of Goods Sold 1,750,000 1,662,000
Other Expenses 276,500 220,000
Depreciation 80,000 66,000
EBIT $1,443,500 $1,392,000
Interest Expense 243,000 306,500
EBT $1,200,500 $1,085,500
Taxes (35%) 420,175 379,925
Net Income $780,325 $705,575

Dividends $108,000 $74,000

Balance Sheet
December 31, 2012 & December 31, 2011
Assets 2012 2011 Liabilities & S.E. 2012 2011
Current Assets Current Liabilities
Cash 335,952 210,800 Accounts Payable 425,147 397,382
Accounts Receivable 746,004 542,200 Short-term Notes Payable 332,122 101,001
Inventory 926,044 802,000 Other Payables 140,853 38,144
Total Current Assets 2,008,000 1,555,000 Total Current Liabilities 898,122 536,527
Net Fixed Assets 876,090 768,800 Long term Debt 653,625 514,555
Total Liabilities 1,551,747 1,051,082

Common Stock (100,000 shares) 560,000 560,000


Retained Earnings 772,343 712,718
Total Stockholder’s Equity 1,332,343 1,272,718

Total Assets 2,884,090 2,323,800 Total Liabilities & S.E. 2,884,090 2,323,800

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Calculate the following using the information given in Sullivan Incorporated’s financial
statements. Also, give a brief 1 to 2-sentence explanation of what each value tells us about
the company. Remember to show all work.

a. Operating Cash flow for the year 2012:

b. Net Capital Spending for the year 2012:

c. Change in NWC for the year 2012:

d. Cash flow from assets for the year 2012:

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#2. ABC Corp is considering changing its payment policy for customers. Currently, ABC requires
customers to pay for all delivered shipments within 90 days of receipt. Since the economy is
slowing down, ABC is contemplating allowing customers to have up to 270 days to pay for all
delivered shipments. Briefly (i.e., in 1 or 2 sentences) explain your answers to the following.
(a) Will this policy increase or decrease the accounts receivable item on ABC’s balance sheet?
(b) In the short run, will this policy result in a major change in the net income of ABC Corp?
(c) In the short run, will this policy result in a major change in the cash flow of ABC Corp?
(d) In the long run (i.e. after a few years), will this policy result in a major change in the cash flow
of ABC Corp.

Chapter 4 Problems

#3. An investor has the choice of $5,000 delivered today or $20,000 delivered exactly 10 years
from today. Interest rates are 8%. Which choice will he prefer?

#4. An individual has the choice between the following prizes:


Prize #1- A payment of $100 at date 0, $100 at date 3, and $200 at date 5
Prize #2- A payment of $200 at date 2 and $200 at date 4
Interest rates are 8%. Which prize should he choose?

#5. A firm is considering purchasing a factory for $1 million. The factory will yield a positive
cash flow of $200,000 at date 1, $300,000 at date 2, and then will be sold for $900,000 at date 3.
The appropriate interest rate is 12%. Ignoring taxes, should the firm purchase the factory?

#6. A firm has just paid its annual dividend. It expects to pay an annual dividend of $4.00 per
share one year from today. Given the firm’s economic prospects, the annual dividend is expected
to grow 10% per year forever (i.e., $4.00 at date 1, $4.40 at date 2, etc.). Investors discount these
dividends at a 15% discount rate. What is the present value of the stream of future dividends?

#7. As part of your retirement planning, starting next year (i.e., one year from today) you intend
to deposit 4% of your annual salary into a retirement account every year. Your salary next year is
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expected to be $60,000, and you anticipate it will grow at an annual rate of 4%. Interest rates are
12%. You expect to make your last deposit in exactly 30 years when you retire. What is the
present value of the funds that you will deposit in your account? What will the value of your
account be on the day you retire?

#8. You are evaluating a project’s value. The relevant discount rate is 10%.

a.) Your first guess is that the project will generate $10 million next year and then die. What is the
PV of the project?

b.) Suppose you find out that the $10 million cash flows will be generated forever. What is the
new PV of the project?

c.) What if the $10 million of cash flows will only be generated for 15 years? Solve this as the
difference between two perpetuities, one beginning in year 1 and one beginning in year 16.

#9. You recently won the super jackpot lottery. You discover that you have the following two
options:
(a) You receive 31 annual payments of $160,000, with the first payment being delivered today.
The income will be taxed at a rate of 28 percent. Taxes are withheld when the checks are issued.
(b) You receive $446,000 now, and you will not have to pay tax on this amount. In addition,
beginning one year from today you will receive $101,055 each year for 30 years. The cash flows
from these future payments will be taxed at a rate of 28 percent.

Using a discount rate of 10 percent, which option should you select?

#10. Sarah Buchwalter bought a $15,000 Honda Civic with 20 percent down and the rest financed
with a four-year loan at an 8 percent stated annual interest rate (APR), compounded monthly.
What is her monthly payment if she makes the first payment one month after the purchase?

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Chapter 5 Problems

#11. Consider the following projects:

Cash Flow
Project C0 C1 C2 C3 C4 C5
A -1,000 +1,000 0 0 0 0
B -2,000 +1,000 +1,000 +4,000 +1,000 +1,000
C -3,000 +1,000 +1,000 0 +1,000 +1,000

(a) If the discount rate is 10%, which projects have a positive NPV?
(b) Calculate the payback period for each project.
(c) Which project(s) would a firm using the payback rule accept if the cutoff period were 2 ½
years?

#12. Consider a project with the following cash flows:

C0 C1 C2
-100 +200 -75

(a) How many internal rates of return does this project have?
(b) Assume the appropriate discount rate for these cash flows is 20 percent. Is this an
attractive project?

#13. A firm has a project with the following cash flows:

Year Cash Flows ($)


0 8,000
1 -4,000
2 -3,000
3 -2,000

(a) Compute the internal rate of return on the project


(b) Suppose the discount rate is 8 percent. Should the project be adopted?

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Chapter 6 Problems

#14. Which of the following should be treated as incremental cash flows when deciding whether
to invest in a new manufacturing plant? The proposed site for the plant is already owned by the
company but could otherwise be sold.
(a) The market value of the site
(b) The costs incurred one year ago to demolishing old buildings on the site
(c) Earnings on other future projects that will be lost due to executive time spent on new facility
(d) A proportion of the cost of leasing the president’s jet plane
(e) The initial investment in inventories and raw materials
(f) Money already spent on engineering design of the new plant

#15. You can choose one of the following two projects.

Cash Flows
Date 0 Date 1 Date 2 Date 3
Project #1 -60 30 22.5 22.5
Project #2 -75 15 30 60

The cash flows for project #1 are expressed in real terms, while the cash flows for project 2 are
expressed in nominal terms. The appropriate nominal discount rate is 15% and the inflation rate
is 4%.

(a) What is the appropriate real discount rate?


(b) Which project should be taken?

#16. The Best Manufacturing Company is considering a new investment. Financial projections
for the investment are listed in the table below. The corporate tax rate is 34 percent. Assume all
sales revenue is received in cash, all operating costs and income taxes are paid in cash, and all cash
flows occur at the end of the year. All net working capital is recovered at the end of the project
(i.e., at year 4).

Year 0 Year 1 Year 2 Year 3 Year 4


Investment $10,000 - - - -
Sales revenue - $7,000 $7,000 $7,000 $7,000
Operating costs - 2,000 2,000 2,000 2,000
Depreciation - 2,500 2,500 2,500 2,500
Investment (increase) in net working capital 200 250 300 200 ?

(a) Compute the incremental net income of the investment for each year.
(b) Compute the incremental cash flows of the investment for each year.
(c) Suppose that the appropriate discount rate is 12 percent. What is the NPV of the project?

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