ACT 5733 – Advanced Managerial Accounting
Summer 2013

Directions: Answer all the questions. Please submit your work in Word or PDF formats only. You can submit an Excel file to support calculations, but please “cut and paste” your solutions into the Word or PDF file. Be sure to show how you did your calculations.
Question #1 (12 points)
Consider the following potential investment, which has the same risk as the firm’s other projects:
Time Cash Flow 0 -$192,000 1 $68,000 2 $70,000 3 $72,000 4 $74,000
The firm’s current weighted-average cost of capital is 15%.

a) How much value will this investment create for the firm?

b) At what discount rate will this project break even?

c) Should the firm do this investment? Be sure to justify your recommendation.

d) How would your analysis change if this potential investment was more risky than the firm’s other projects? Be specific.

Question #2 (16 points)
A firm believes it can generate an additional $450,000 per year in revenues for the next 6 years if it replaces existing equipment that is no longer usable with new equipment that costs $500,000. The additional sales will require an initial investment in net working capital of $35,000, which is expected to be recovered at the end of the project (after 6 years). The existing equipment has a book value of $15,000 and a market value of $5,000. The firm expects to be able to sell the new equipment when it is finished using it (after 6 years) for $20,000. The contribution margin is expected to be 40% of revenue. Assume the firm uses straight line depreciation, its marginal tax rate is 35%, and its weighted-average cost of capital is 14%.

a) How much value will this new equipment create for the firm?

b) At what discount rate will this project break even?

c) Should the firm purchase the new equipment? Be sure to justify your recommendation.

Question #3 (16 points)
After a study of its processes, a firm determines it has the…