Answers to Cruddy Corp and Steve’s
BBQ
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Handout Questions |
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1. |
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Cruddy Corp. Two ways to do this problem. (1) equivalent annual costs or (2) replacement chain. Remember, all values are costs so looking for lowest cost alternative. |
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Equivalent Annual Costs |
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T=0 |
T=1 |
T=2 |
T=3 |
T=4 |
T=5 |
T=6 |
T=7 |
T=8 |
T=9 |
T=10 |
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A |
200K |
100K |
100K |
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B |
1,400K |
50K |
50K |
50K |
50K |
50K |
50K |
50K |
50K |
50K |
50K |
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PVA = 373,554, PVB = 1,707,228 |
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EACA = 215,238, EACB = 277,844 so choose A (lowest cost per year) |
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Replacement Chain |
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Lowest common denominator of a 2 year project and a 10 year project is 10 years. |
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So, create 10 year project cash flows for project A. For example: t3 = 300,000, t4 = 100,000, t5 = 300,000, t6 = 100,000 …….. |
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Project with the lowest PV wins (A should win) |
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2. |
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Steve's Barbecue |
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0 |
1 |
2 |
3 |
4 |
5 |
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New BBQ |
(200K) |
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Sale of Old BBQ |
40K |
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Tax on sale of old BBQ |
(12K) |
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Loss of sale of old BBQ |
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(10K) |
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Loss of tax on sale |
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3K |
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Decrease in inventory |
(10K) |
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10K |
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Cost Savings net of tax |
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21K |
21K |
21K |
21K |
21K |
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Tax benefit of depreciation |
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18K |
24K |
12K |
6K |
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Salvage of new BBQ |
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60K |
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Tax on sale of new BBQ |
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(18K) |
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Net Cash Flow |
(182K) |
39K |
45K |
33K |
27K |
66K |