EXAM 3 REVIEW QUESTIONS 1 XYZ is considering a project with installed costs of 250 000 This cost will be depreciated straight line to zero over the 8 year life At the end the asset will have a salvage value of 50 000 The asset will increase revenues by 100 000 per year at a an additional yearly cost of 30 000 The asset requires an initial working capital investment of 15 000 The tax rate is 34 percent The discount rate is 10 percent What is the NPV of this project 2 You are investigating two different machines A and B Machine A costs 700 000 has a fiveyear life and has a pretax operating cost of 30 000 per year Machine B costs 350 000 has a two year life and has a pretax operating cost of 50 000 per year Machine A has a salvage value of 200 000 Machine B has a salvage value of 50 000 Assume straight line depreciation for both The tax rate is 34 percent The discount rate is 10 percent Which machine should you buy Does this depend upon whether you will replace the machine in the future 3 ZZZ is deciding whether to buy a new compressor at an installed cost of 2 000 The compressor will save ZZZ 150 per year is cost savings ZZZ will only use the compressor for three years The compressor depreciates using MACRS 5 year schedule The expected salvage value of the compressor is 250 after three years The tax rate is 40 and the discount rate is 12 What is the NPV of the compressor MACRS Year Percentage 1 20 2 32 3 19 2 4 11 52 5 11 52 6 5 76 4 What are the portfolio weights for a portfolio that consists of 100 shares of Stock A selling for 45 per share 150 shares of Stock B selling for 40 per share and 75 shares of Stock C selling for 125 per share 5 Consider the following STATE PROBABILITY Boom 70 Normal 20 Bust 10 RETURN A 25 10 50 RETURN B 10 7 10 Your portfolio has 20 percent invested in Stock A and 80 in Stock B What is the expected return of your portfolio 6 Your portfolio has a beta equal to the market beta You have 25 of your portfolio in the risk free asset and the rest in Stock A If you have 5 000 how much money do you have invested in Stock A if the stock has a beta of 1 45 7 A stock has a beta of 1 25 and an expected return of 14 The risk free rate is 2 1 What is the market risk premium 8 The standard deviation of Stock A s returns is 25 with an expected return of 12 The standard deviation of Stock B s returns is 18 with an expected return of 15 The beta of Stock A is 1 2 The risk free rate is 3 What is the beta of Stock B 9 KS Communications is considering a project with an initial fixed asset cost of 200 000 which will be depreciated straight line over the 10 year life of the project At the end of the project the equipment will be sold for an estimated salvage of 150 000 The project will increase sales by 250 000 a year The tax rate is 35 percent The project will require 100 000 of inventory which will be recouped when the project ends Should this project be implemented if the firm requires a 25 percent rate of return Why or why not