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a firm currently owns land in another city where it would like to expand its operations. It is considering using the land to build a manufacturing plant to produce products that will be sold in that community. Should the cost the land be considered as a project cost? Why or why not, and what kind of cost is this (sunk, externality, opportunity, etc.)?

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Collen Von
Collen VonLv2
28 Sep 2019

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1. Based on the corporate tax table below, what is the average tax rate for a firm with $120,000 taxable income? Taxable Income Marginal Tax Rates $0 - 50,000 15% 50,001 - 75,000 25% 75,001 - 100,000 34% 100,001 - 335,000 39% 335,001 - 10,000,000 34% 10,000,001 - 15,000,000 35% 15,000,001 - 18,333,333 38% 18,333,334 + 35%

2. When is it appropriate to include sunk costs in the evaluation of a project?

Include sunk costs if they are considered to be overhead costs

It is never appropriate to include sunk costs

Include sunk costs if they improve the project’s NPV

Include sunk costs when they are relatively large

3. A firm has a piece of land that was unused, but plans to build a new office complex on it in a new capital project. The market value of the land should be considered as a component of project cash flows provided that the land:

has been fully depreciated as the market value a sunk cost.

can be depreciated going forward.

has the same market value as the book value.

has identifiable market value as it is an opportunity cost.

Suppose you have been hired as a financial consultant to Defense Electronics, Inc. (DEI), a large, publicly traded firm that is the market share leader in radar detection systems (RDSs). The company is looking at setting up a manufacturing plant overseas to produce a new line of RDSs. This will be a five-year project. The company bought some land three years ago for $4.5 million in anticipation of using it as a toxic dump site for waste chemicals, but it built a piping system to safely discard the chemicals instead. The land was appraised last week for $5.3 million. In five years, the aftertax value of the land will be $5.7 million, but the company expects to keep the land for a future project. The company wants to build its new manufacturing plant on this land; the plant and equipment will cost $32 million to build. The following market data on DEI

Given a project's expected cash flows, it is easy to calculate its NPV, IRR, MIRR, payback, and discounted payback. Cash flows are estimated based on information from various sources. There is uncertainty in a project's forecasted cash flows, and some projects are more uncertain and thus riskier than others. In this chapter, we illustrate how project cash flows are estimated, discuss techniques for measuring risk, and discuss how to choose between projects that have significantly different lives, are mutually exclusive, and can be repeated.

The most critical step in capital budgeting analysis is cash flow estimation.

The key is to focus on only

a. relevant

b. net income

c. incremental accounting income or

d. incremental cash flows.

Factors that complicate the analysis are sunk costs, opportunity costs, externalities, changes in net operating working capital, and salvage values. Adjustments to the analysis must be made for

a. inflation

b. interest

c. dividends

We concentrate on expansion project analyses here but there are similarities when analyzing replacement projects.

Give the correct response to each of the following questions.

Which of the following items should be included in the capital budgeting analysis?
a. Sunk costs

b. Interest payments

c. Dividend payments

d. Opportunity costs

An outlay that was incurred in the past and cannot be recovered in the future regardless of whether the project under consideration is accepted is known as
a. Opportunity cost

b. Externality

c. Sunk cost

d. Cannibalization

Which of the following is an example of an opportunity cost?
a. A publisher introduces a new textbook which reduces sales of one of their existing textbooks.
b. A firm has land that can be used in building a new store. If the new store is not built, the firm could sell the land for $2 million (net of taxes).
c. Apple's investment in the iTunes music store boosted sales of its iPod.
d. The cost of a report done 2 years ago to investigate the potential of a new plant and the permits required to build it.
e. Statements a and d are both examples of opportunity costs.
The correct response is -Select-statement astatement bstatement cstatement dstatement eItem 6 .

Which of the following is an example of cannibalization?
a. A publisher introduces a new textbook which reduces sales of one of their existing textbooks.
b. A firm has land that can be used in building a new store. If the new store is not built, the firm could sell the land for $2 million (net of taxes).
c. Apple's investment in the iTunes music store boosted sales of its iPod.
d. The cost of a report done 2 years ago to investigate the potential of a new plant and the permits required to build it.
e. Statements c and d are both examples of cannibalization.
The correct response is -Select-statement astatement bstatement cstatement dstatement eItem 7 .

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