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10-1

Chapter 10 Developing Project Cash Flows


Generating Net Cash Flows

10.1

dB= 4% t= 35%
dE= id=
dO= MARR= 15%
tCG= 17.5% N= 5
Year 0 1 2 3 4 5

Income Statement
Revenues 2,965,524 2,965,524 2,965,524 2,965,524 2,965,524
Expenses
Materials
Labour
Overhead
O&M 330,000 380,000 430,000 480,000 530,000
Debt interest - - - - -
CCA
Building @dB 250,000 490,000 470,400 451,584 433,521
Machines @dE - - - - -
Others @dO - - - - -
Taxable income 2,385,524 2,095,524 2,065,124 2,033,940 2,002,003
Income taxes @t 834,933 733,433 722,793 711,879 700,701
Net income 1,550,590 1,362,090 1,342,330 1,322,061 1,301,302
Cash Flow Statement
Operating activities
Net income 1,550,590 1,362,090 1,342,330 1,322,061 1,301,302
CCA 250,000 490,000 470,400 451,584 433,521
Investment activities
Land
Building (12,500,000) 14,000,000
Machines
Others
Disposal tax effect
Land -
Building (995,927)
Machines -
Others -
Financing activities
Principal portion - - - - -
Net cash flow (12,500,000) 1,800,590 1,852,090 1,812,730 1,773,645 14,738,896
PE(MARR) = -
AE(MARR) = -
IRR= 15.00%
The rent per apartment is $2,965,524/50 = $59,310.48/year.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-2

*
10.2

dB= t= 35%
dE= 30% id=
dO= MARR=
tCG= N= 7
Year 0 1 2 3 4 5 6 7
Income Statement
Revenues 120,000 120,000 120,000 120,000 120,000 120,000 120,000
Expenses
Materials
Labour
Overhead
O&M
Debt interest - - - - - - -
CCA
Building @dB - - - - - - -
Machines @dE 27,750 47,175 33,023 23,116 16,181 11,327 7,929
Others @dO - - - - - - -
Taxable income 92,250 72,825 86,978 96,884 103,819 108,673 112,071
Income taxes @t 32,288 25,489 30,442 33,909 36,337 38,036 39,225
Net income 59,963 47,336 56,535 62,975 67,482 70,638 72,846
Cash Flow Statement
Operating activities
Net income 59,963 47,336 56,535 62,975 67,482 70,638 72,846
CCA 27,750 47,175 33,023 23,116 16,181 11,327 7,929
Investment activities
Land
Building
Machines (185,000) 40,000
Others
Disposal tax effect
Land -
Building -
Machines (7,525)
Others -
Financing activities
Principal portion - - - - - - -
Net cash flow (185,000) 87,713 94,511 89,558 86,091 83,663 81,964 113,250
PE(MARR) = $ 451,750
AE(MARR) = $ 64,536
IRR= 44.87%

*
An asterisk next to a problem number indicates that the solution is available to students
on the Companion Website.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-3

10.3

dB= t= 40%
dE= 30% id=
dO= MARR= 15%
tCG= N= 6
Year 0 1 2 3 4 5 6
Income Statement
Revenues 25,000 25,000 25,000 25,000 25,000 25,000
Expenses
Materials
Labour
Overhead
O&M 7,000 7,000 7,000 7,000 7,000 7,000
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 8,250 14,025 9,818 6,872 4,811 3,367
Others @dO - - - - - -
Taxable income 9,750 3,975 8,183 11,128 13,189 14,633
Income taxes @t 3,900 1,590 3,273 4,451 5,276 5,853
Net income 5,850 2,385 4,910 6,677 7,914 8,780
Cash Flow Statement
Operating activities
Net income 5,850 2,385 4,910 6,677 7,914 8,780
CCA 8,250 14,025 9,818 6,872 4,811 3,367
Investment activities
Land
Building
Machines (55,000) -
Others
Disposal tax effect
Land -
Building -
Machines 3,143
Others -
Financing activities
Principal portion - - - - - -
Net cash flow (55,000) 14,100 16,410 14,727 13,549 12,724 15,290
PE(MARR) = $ 35 Yes, buy the machine.
AE(MARR) = $ 9
IRR= 15.02%
The machine should be bought because its PE(MARR) is greater than 0.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-4

*
10.4

dB= 4% t= 40%
dE= 30% id=
dO= MARR=
tCG= 20% N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 2,200,000 2,200,000 2,200,000 2,200,000 2,200,000
Expenses
Materials
Labour
Overhead
O&M 1,280,000 1,280,000 1,280,000 1,280,000 1,280,000
Debt interest - - - - -
CCA
Building @dB 10,000 19,600 18,816 18,063 17,341
Machines @dE 75,000 127,500 89,250 62,475 43,733
Others @dO - - - - -
Taxable income 835,000 772,900 811,934 839,462 858,927
Income taxes @t 334,000 309,160 324,774 335,785 343,571
Net income 501,000 463,740 487,160 503,677 515,356
Cash Flow Statement
Operating activities
Net income 501,000 463,740 487,160 503,677 515,356
CCA 85,000 147,100 108,066 80,538 61,073
Investment activities
Land (100,000) 115,000
Building (500,000) 575,000
Machines (500,000) 50,000
Others
Disposal tax effect
Land (3,000)
Building (48,528)
Machines 20,817
Others -
Financing activities
Principal portion - - - - -
Net cash flow (1,100,000) 586,000 610,840 595,226 584,215 1,285,718
PE(MARR) = $2,562,000
AE(MARR) = $ 512,400
IRR= 51.28%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-5

10.5

Year: 1 2 3 4 5
Total distance/year (m): 2000 2000 2000 2000 2000
Production rate (m/hr) 5 5 5 4.5 4
Required hours/year: 400 400 400 444 500
Operating cost/year: 6000 6000 6000 6667 7500
dB= t= 34%
dE= 30% id=
dO= MARR=
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues - - - -
Expenses
Materials/Labour
Overhead
O&M 6,000 6,000 6,000 6,667 7500
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE 27,000 45900 32,130 22,491 55,744
Others @dO - - - - -
Taxable income (33,000) (51,900) (38,130) (29,158) (23,244)
Income taxes @t (11,220) (17,646) (12,964) (9,914) (7,903)
Net income (21,780) (34,254) (25,166) (19,244) (15,341)
Cash Flow Statement
Operating activities
Net income (21,780) (34,254) (25,166) (19,244) (15,341)
CCA 27,000 45,900 32,130 22,491 15,744
Investment activities
Land
Building
Machines (180,000) 40,000
Others
Disposal tax effect
Land -
Building -
Machines (1,110)
Others -
Financing activities
Principal portion - - - - -
Net cash flow (180,000) 5,220 11,646 6,964 3,247 39,293
PE(MARR) = $ (113,630)
AE(MARR) = $ (22,726)
IRR= -21.47%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-6

*
10.6

dB= t= 35%
dE= 45% id=
dO= MARR= 13%
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 52,000 52,000 52,000 52,000 52,000
Expenses
Materials
Labour
Overhead
O&M 32,000 12,000 12,000 12,000 12,000
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE 23,400 36,270 19,949 10,972 6,034
Others @dO - - - - -
Taxable income (3,400) 3,730 20,052 29,028 33,966
Income taxes @t (1,190) 1,306 7,018 10,160 11,888
Net income (2,210) 2,425 13,033 18,868 22,078
Cash Flow Statement
Operating activities
Net income (2,210) 2,425 13,033 18,868 22,078
CCA 23,400 36,270 19,949 10,972 6,034
Investment activities
Land
Building
Machines (104,000) -
Others
Disposal tax effect
Land -
Building -
Machines 2,581
Others -
Financing activities
Principal portion - - - - -
Net cash flow (104,000) 21,190 38,695 32,982 29,840 30,693
PE(MARR) = $ 2,874
AE(MARR) = $ 817
IRR= 14.09%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-7

10.7

dB= t= 40%
dE= 45% id=
dO= MARR= 12%
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 20,160 20,160 20,160 20,160 20,160
Expenses
Materials
Labour
Overhead
O&M 10,000 10,000 10,000 10,000 10,000
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE 4,163 6,452 3,549 1,952 1,073
Others @dO - - - - -
Taxable income 5,998 3,708 6,611 8,208 9,087
Income taxes @t 2,399 1,483 2,645 3,283 3,635
Net income 3,599 2,225 3,967 4,925 5,452
Cash Flow Statement
Operating activities
Net income 3,599 2,225 3,967 4,925 5,452
CCA 4,163 6,452 3,549 1,952 1,073
Investment activities
Land
Building
Machines (18,500) 1,850
Others
Disposal tax effect
Land -
Building -
Machines (215)
Others -
Financing activities
Principal portion - - - - -
Net cash flow (18,500) 7,761 8,677 7,515 6,877 8,160
PE(MARR) = $ 9,696
AE(MARR) = $ 2,690
IRR= 31.79%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-8

10.8

dB= t= 40%
dE= 20% id=
dO= MARR= 12%
tCG= N= 6
Year 0 1 2 3 4 5 6
Income Statement
Revenues 300,000 300,000 300,000 300,000 300,000 300,000
Expenses
Materials 50,000 50,000 50,000 50,000 50,000 50,000
Labour 80,000 80,000 80,000 80,000 80,000 80,000
Overhead
O&M - - - - -
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 12,000 21,600 17,280 13,824 11,059 8,847
Others @dO - - - - - -
Taxable income 158,000 148,400 152,720 156,176 158,941 161,153
Income taxes @t 63,200 59,360 61,088 62,470 63,576 64,461
Net income 94,800 89,040 91,632 93,706 95,364 96,692
Cash Flow Statement
Operating activities
Net income 94,800 89,040 91,632 93,706 95,364 96,692
CCA 12,000 21,600 17,280 13,824 11,059 8,847
Investment activities
Land
Building
Machines (120,000) -
Others
Disposal tax effect
Land -
Building -
Machines 14,156
Others -
Financing activities
Principal portion - - - - - -
Net cash flow (120,000) 106,800 110,640 108,912 107,530 106,424 119,695
PE(MARR) = $ 330,446
AE(MARR) = $ 80,373
IRR= 88.28%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-9

10.9

dB= t= 40%
dE= 30% id=
dO= MARR=
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 250,000 250,000 250,000 250,000 250,000
Expenses
Materials - - - -
Labour - - - -
Overhead
O&M 50,000 50,000 50,000 50,000 50,000
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE 45,000 76,500 53,550 37,485 26,240
Others @dO - - - - -
Taxable income 155,000 123,500 146,450 162,515 173,761
Income taxes @t 62,000 49,400 58,580 65,006 69,504
Net income 93,000 74,100 87,870 97,509 104,256
Cash Flow Statement
Operating activities
Net income 93,000 74,100 87,870 97,509 104,256
CCA 45,000 76,500 53,550 37,485 26,240
Investment activities
Land
Building
Machines (300,000) 5,000
Others
Disposal tax effect
Land -
Building -
Machines 22,490
Others -
Financing activities
Principal portion - - - - -
Net cash flow (300,000) 138,000 150,600 141,420 134,994 157,986
PE(MARR) = $ 423,000
AE(MARR) = $ 84,600
IRR= 38.32%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-10

10.10

dB= t= 35%
dE= 35% id=
dO= MARR= 10%
tCG= N= 9
Year 0 1 2 3 4 5 6 7 8 9
Income Statement
Revenues 10,000 10,000 10,000 10,000 10,000 10,000 10,000 10,000 10,000
Expenses
Materials - - - - - - - -
Labour - - - - - - - -
Overhead
O&M - - - - - - - -
Debt interest - - - - - - - - -
CCA
Building @dB - - - - - - - - -
Machines @dE 8,750 14,438 9,384 6,100 3,965 2,577 1,675 1,089 708
Others @dO - - - - - - - - -
Taxable income 1,250 (4,438) 616 3,900 6,035 7,423 8,325 8,911 9,292
Income taxes @t 438 (1,553) 215 1,365 2,112 2,598 2,914 3,119 3,252
Net income 813 (2,884) 400 2,535 3,923 4,825 5,411 5,792 6,040
Cash Flow Statement
Operating activities
Net income 813 (2,884) 400 2,535 3,923 4,825 5,411 5,792 6,040
CCA 8,750 14,438 9,384 6,100 3,965 2,577 1,675 1,089 708
Investment
activities
Land
Building
Machines (50,000) -
Others
Disposal tax effect
Land -
Building -
Machines 460
Others -
Financing activities
Principal portion - - - - - - - - -
Net cash flow (50,000) 9,563 11,553 9,785 8,635 7,888 7,402 7,086 6,881 7,208
PE(MARR) = $ 469
AE(MARR) = $ 82
IRR= 10.26%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-11

*
10.11

dB= t= 40%
dE= 30% id=
dO= MARR= 15%
tCG= N= 5
Year 0 1 32 4 5
Income Statement
Revenues 130,000 130,000 130,000 130,000 130,000
Expenses
Materials - - - -
Labour - - - -
Overhead
O&M 20,000 20,000 20,000 20,000 20,000
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE 45,017 76,529 53,570 37,499 26,249
Others @dO - - - - -
Taxable income 64,983 33,471 56,430 72,501 83,751
Income taxes @t 25,993 13,388 22,572 29,000 33,500
Net income 38,990 20,083 33,858 43,501 50,250
Cash Flow Statement
Operating activities
Net income 38,990 20,083 33,858 43,501 50,250
CCA 45,017 76,529 53,570 37,499 26,249
Investment activities
Land
Building
Machines (300,113) -
Others
Disposal tax effect
Land -
Building -
Machines 24,499
Others -
Financing activities
Principal portion - - - - -
Net cash flow (300,113) 84,007 96,612 87,428 81,000 100,999
PE(MARR) = $ -
AE(MARR) = $ -
IRR= 15.00%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-12

Investment in Working Capital


*
10.12

dB= 4% t= 40%
dE= 30% id=
dO= 0% MARR= 15%
tCG= 20% N= 10
Year 0 1 2 3 4 5 6 7 8 9 10
Income Statement
Revenues 875,000 875,000 875,000 875,000 875,000 875,000 875,000 875,000 875,000 875,000
Expenses
Materials - - - - - - - - -
Labour - - - - - - - - -
Overhead
O&M 425,000 425,000 425,000 425,000 425,000 425,000 425,000 425,000 425,000 425,000
Debt interest - - - - - - - - - -
CCA
Building @dB 30,000 58,800 56,448 54,190 52,022 49,942 47,944 46,026 44,185 42,418
Machines @dE 75,000 127,500 89,250 62,475 43,733 30,613 21,429 15,000 10,500 7,350
Others @dO - - - - - - - - - -
Taxable income 345,000 263,700 304,302 333,335 354,245 369,446 380,627 388,974 395,315 400,232
Income taxes @t 138,000 105,480 121,721 133,334 141,698 147,778 152,251 155,589 158,126 160,093
Net income 207,000 158,220 182,581 200,001 212,547 221,667 228,376 233,384 237,189 240,139
Cash Flow Statement
Operating activities
Net income 207,000 158,220 182,581 200,001 212,547 221,667 228,376 233,384 237,189 240,139
CCA 105,000 186,300 145,698 116,665 95,755 80,554 69,373 61,026 54,685 49,768
Investment activities
Land (250,000) 500,000

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-13

Building (1,500,000) 700,000


Machines (500,000) 50,000
Others (150,000) 150,000
Disposal tax effect
Land (50,000)
Building 127,210
Machines (13,140)
Others -
Financing activities
Principal portion - - - - - - - - - -
Net cash flow (2,400,000) 312,000 344,520 328,279 316,666 308,302 302,222 297,749 294,411 291,874 1,753,977
PE(MARR) = $ (462,642)
AE(MARR) = $ (92,182)
IRR= 10.65%
With working capital: PE(15%) = - $462,642, Not justified
Without working capital: PE(15%) = - $349,720, Still not justified

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-14

10.13

dB= t= 35%
dE= 30% id=
dO= 0% MARR= 18%
tCG= N= 6
Year 0 1 2 3 4 5 6
Income Statement
Revenues 55,800 55,800 55,800 55,800 55,800 55,800
Expenses
Materials - - - - -
Labour - - - - -
Overhead
O&M 8,120 8,120 8,120 8,120 8,120 8,120
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 9,825 16,703 11,692 8,184 5,729 4,010
Others @dO - - - - - -
Taxable income 37,855 30,978 35,988 39,496 41,951 43,670
Income taxes @t 13,249 10,842 12,596 13,824 14,683 15,284
Net income 24,606 20,135 23,392 25,672 27,268 28,385
Cash Flow Statement
Operating activities
Net income 24,606 20,135 23,392 25,672 27,268 28,385
CCA 9,825 16,703 11,692 8,184 5,729 4,010
Investment activities
Land
Building
Machines (65,500) 3,000
Others (10,000) 10,000
Disposal tax effect
Land -
Building -
Machines 2,225
Others -
Financing activities
Principal portion - - - - - -
Net cash flow (75,500) 34,431 36,838 35,084 33,856 32,997 47,621
PE(MARR) = $ 51,015
AE(MARR) = $ 14,586
IRR= 41.36%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-15

10.14 All in '000 dollars

dB= 4% t= 40%
dE= 30% id=
dO= 0% MARR= 20%
tCG= N= 10
1 2 3
Year -2 -1 0 1 2 3 4 5 6 7 8 9 10
Income Statement
Revenues 45,000 49,500 54,450 59,895 65,885 72,473 65,226 58,703 52,833 47,550
Expenses
Materials - - - - - - - - -
Labour - - - - - - - - -
Overhead
O&M 500 2,500 2,000 36,000 39,600 43,560 47,916 52,708 57,978 52,181 46,962 42,266 38,040
Debt interest - - - - - - - - - -
CCA
Building @dB 40 78 75 72 69 67 64 61 59 57
Machines @dE 450 765 536 375 262 184 129 90 63 44
Others @dO - - - - - - - - - -
Taxable income (500) (2,500) (2,000) 8,510 9,057 10,279 11,532 12,845 14,244 12,853 11,589 10,445 9,409
Income taxes @t (200) (1,000) (800) 3,404 3,623 4,112 4,613 5,138 5,698 5,141 4,636 4,178 3,764
Net income (300) (1,500) (1,200) 5,106 5,434 6,168 6,919 7,707 8,547 7,712 6,954 6,267 5,646
Cash Flow Statement
Operating activities
Net income (300) (1,500) (1,200) 5,106 5,434 6,168 6,919 7,707 8,547 7,712 6,954 6,267 5,646
CCA - - - 490 843 611 447 332 250 192 151 122 101
Investment activities
Land

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-16

Building (2,000) 1,000


Machines (3,000) 300
Others (4,500) (450) (495) (545) (599) (659) 725 652 587 528 4,755
Disposal tax effect
Land -
Building 143
Machines (79)
Others
Financing activities
Principal portion - - - - - - - - - -
Net cash flow (300) (1,500) (10,700) 5,146 5,782 6,234 6,767 7,380 9,522 8,556 7,692 6,917 11,865
PE(MARR) = $ 9,162 at the beginning of the first R&D year
AE(MARR) = $ 2,021 each year over 13 years
IRR= 45.31% considering all net cash flows during the 13 years

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-17

Effects of Borrowing
10.15

dB= 4% t= 35%
dE= id= 10%
dO= MARR= 15%
tCG= 17.5% N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 1,896,945 1,896,945 1,896,945 1,896,945 1,896,945
Expenses
Materials
Labour
Overhead
O&M 330,000 380,000 430,000 480,000 530,000
Debt interest 1,250,000 1,045,253 820,032 572,288 299,770
CCA
Building @dB 250,000 490,000 470,400 451,584 433,521
Machines @dE - - - - -
Others @dO - - - - -
Taxable income 66,945 (18,308) 176,513 393,073 633,654
Income taxes @t 23,431 (6,408) 61,780 137,576 221,779
Net income 43,514 (11,900) 114,734 255,497 411,875
Cash Flow Statement
Operating activities
Net income 43,514 (11,900) 114,734 255,497 411,875
CCA 250,000 490,000 470,400 451,584 433,521
Investment activities
Land
Building (12,500,00) 14,000,000
Machines
Others
Disposal tax effect
Land -
Building (995,927)
Machines -
Others -
Financing activities
Principal portion 12,500,000 (2,047,469) (2,252,215) (2,477,437) (2,725,181) (2,997,699)
Net cash flow - (1,753,954) (1,774,116) (1,892,303) (2,018,099) 10,851,771
PE(MARR) = $130,509
AE(MARR) = $38,933
IRR= 16.08%
Annual rent per apartment needed = $ 37,939

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-18

*
10.16

dB= t= 35%
dE= 30% id= 10%
dO= MARR=
tCG= N= 7
Year 0 1 2 3 4 5 6 7
Income Statement
Revenues 120,000 120,000 120,000 120,000 120,000 120,000 120,000
Expenses
Materials
Labour
Overhead
O&M
Debt interest 18,500 14,800 11,100 7,400 3,700
CCA
Building @dB - - - - - - -
Machines @dE 27,750 47,175 33,023 23,116 16,181 11,327 7,929
Others @dO - - - - - - -
Taxable income 73,750 58,025 75,878 89,484 100,119 108,673 112,071
Income taxes @t 25,813 20,309 26,557 31,319 35,042 38,036 39,225
Net income 47,938 37,716 49,320 58,165 65,077 70,638 72,846
Cash Flow Statement
Operating activities
Net income 47,938 37,716 49,320 58,165 65,077 70,638 72,846
CCA 27,750 47,175 33,023 23,116 16,181 11,327 7,929
Investment activities
Land
Building
Machines (185,000) 40,000
Others
Disposal tax effect
Land -
Building -
Machines (7,525)
Others -
Financing activities
Principal portion 185,000 (37,000) (37,000) (37,000) (37,000) (37,000)
Net cash flow - 38,688 47,891 45,343 44,281 44,258 81,964 113,250
PE(MARR) = $ 415,675
AE(MARR) = $ 59,382
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-19

10.17

dB= t= 40%
dE= 30% id= 11%
dO= MARR=
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues 250,000 250,000 250,000 250,000 250,000
Expenses
Materials - - - -
Labour - - - -
Overhead
O&M 50,000 50,000 50,000 50,000 50,000
Debt interest 16,500 13,851 10,910 7,645 4,022
CCA
Building @dB - - - - -
Machines @dE 45,000 76,500 53,550 37,485 26,240
Others @dO - - - - -
Taxable income 138,500 109,649 135,540 154,870 169,739
Income taxes @t 55,400 43,860 54,216 61,948 67,895
Net income 83,100 65,790 81,324 92,922 101,843
Cash Flow Statement
Operating activities
Net income 83,100 65,790 81,324 92,922 101,843
CCA 45,000 76,500 53,550 37,485 26,240
Investment activities
Land
Building
Machines (300,000) 5,000
Others
Disposal tax effect
Land -
Building -
Machines 22,490
Others -
Financing activities
Principal portion 150,000 (24,086) (26,735) (29,676) (32,940) (36,564)
Net cash flow (150,000) 104,014 115,555 105,198 97,467 119,009
PE(MARR) = $ 391,243 Annual Loan Payment = $ 40,586
AE(MARR) = $ 78,249
IRR= 65.93%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-20

10.18

dB= t= 40%
dE= 100% id= 10%
dO= MARR= 15%
tCG= N= 2
Year 0 1 2
Income Statement
Revenues 30,000 30,000
Expenses
Materials
Labour
Overhead
O&M 5,000 5,000
Debt interest 1,000 524
CCA
Building @dB - -
Machines @dE 10,000 10,000
Others @dO - -
Taxable income 14,000 14,476
Income taxes @t 5,600 5,790
Net income 8,400 8,686
Cash Flow Statement
Operating activities
Net income 8,400 8,686
CCA 10,000 10,000
Investment activities
Land
Building
Machines (20,000) 8,000
Others
Disposal tax effect
Land -
Building -
Machines (3,200)
Others -
Financing activities
Principal portion 10,000 (4,762) (5,238)
Net cash flow (10,000) 13,638 18,248
PE(MARR) = $15,657 Annual loan payment = $5,762
AE(MARR) = $9,631
IRR= 119.51%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-21

10.19

dB= t= 40%
dE= 30% id= 9%
dO= MARR= 18%
tCG= N= 10
Year 0 1 2 3 4 5 6 7 8 9 10
Income Statement
Revenues 135,000 135,000 135,000 135,000 135,000 135,000 135,000 135,000 135,000 135,000
Expenses
Materials
Labour
Overhead
O&M
Debt interest 13,500 9,000 4,500
CCA
Building @dB - - - - - - - - - -
Machines @dE 30,000 51,000 35,700 24,990 17,493 12,245 8,572 6,000 4,200 2,940
Others @dO - - - - - - - - - -
Taxable income 91,500 75,000 94,800 110,010 117,507 122,755 126,428 129,000 130,800 132,060
Income taxes @t 36,600 30,000 37,920 44,004 47,003 49,102 50,571 51,600 52,320 52,824
Net income 54,900 45,000 56,880 66,006 70,504 73,653 75,857 77,400 78,480 79,236
Cash Flow Statement
Operating activities
Net income 54,900 45,000 56,880 66,006 70,504 73,653 75,857 77,400 78,480 79,236
CCA 30,000 51,000 35,700 24,990 17,493 12,245 8,572 6,000 4,200 2,940
Investment activities
Land
Building
Machines (200,000) 20,000

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-22

Others
Disposal tax effect
Land -
Building -
Machines (5,256)
Others -
Financing activities
Principal portion 150,000 (50,000) (50,000) (50,000)
Net cash flow (50,000) 34,900 46,000 42,580 90,996 87,997 85,898 84,429 83,400 82,680 96,920
PE(MARR) = $241,597
AE(MARR) = $53,759
IRR= 92.24% Yes, justified

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-23

10.20

dB= t= 35%
dE= 30% id= 10%
dO= MARR= 18%
tCG= N= 5
Year 0 1 2 3 4 5
Income Statement
Revenues - - - -
Expenses
Materials
Labour
Overhead
O&M
Debt interest 84,000 70,241 55,106 38,458 20,145
CCA
Building @dB - - - - -
Machines @dE 315,000 535,500 374,850 262,395 183,677
Others @dO - - - - -
Taxable income (399,000) (605,741) (429,956) (300,853) (203,821)
Income taxes @t (139,650) (212,009) (150,485) (105,298) (71,337)
Net income (259,350) (393,732) (279,471) (195,554) (132,484)
Cash Flow Statement
Operating activities
Net income (259,350) (393,732) (279,471) (195,554) (132,484)
CCA 315,000 535,500 374,850 262,395 183,677
Investment activities
Land
Building
Machines (2,100,000) 210,000
Others
Disposal tax effect
Land -
Building -
Machines 76,502
Others -
Financing activities
Principal portion 840,000 (137,590) (151,349) (166,484) (183,132) (201,445)
Net cash flow (1,260,000) (81,940) (9,581) (71,105) (116,291) 136,250
PE(MARR) = $(1,380,024) Annual loan payment = $ 221,590
AE(MARR) = $(441,301)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-24

10.21

dB= t= 36%
dE= 30% id= 12%
dO= MARR= 15%
tCG= N= 6
Year 0 1 2 3 4 5 6
Income Statement
Revenues 10,000 10,000 10,000 10,000 10,000 10,000
Expenses
Materials
Labour
Overhead
O&M
Debt interest 4,800 4,209 3,546 2,804 1,973 1,042
CCA
Building @dB - - - - - -
Machines @dE 6,000 10,200 7,140 4,998 3,499 2,449
Others @dO - - - - - -
Taxable income (800) (4,409) (686) 2,198 4,528 6,509
Income taxes @t (288) (1,587) (247) 791 1,630 2,343
Net income (512) (2,821) (439) 1,407 2,898 4,165
Cash Flow Statement
Operating activities
Net income (512) (2,821) (439) 1,407 2,898 4,165
CCA 6,000 10,200 7,140 4,998 3,499 2,449
Investment activities
Land
Building
Machines (40,000) 3,000
Others
Disposal tax effect
Land -
Building -
Machines 977
Others -
Financing activities
Principal portion 40,000 (4,929) (5,521) (6,183) (6,925) (7,756) (8,687)
Net cash flow - 559 1,858 518 (520) (1,359) 1,905
PE(MARR) = $2,082 Annual loan payment = $ 9,729
AE(MARR) = $550
IRR= Undefined IRR does not exist. Cannot use the IRR method.
Acceptable based on the PE criterion.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-25

Generalized Cash Flow Method


*
10.22

dB= t= 40%
dE= 30% id= 10%
dO= MARR= 14%
tCG= N= 8
Year 0 1 2 3 4 5 6 7 8
Income Statement
Revenues 40,000 40,000 40,000 40,000 40,000 40,000 40,000 40,000
Expenses
Materials
Labour
Overhead
O&M 5,000 5,000 5,000 5,000 5,000 5,000 5,000 5,000
Debt interest 4,000 3,650 3,265 2,842 2,377 1,865 1,301 682
CCA
Building @dB - - - - - - - -
Machines @dE 16,500 28,050 19,635 13,745 9,621 6,735 4,714 3,300
Others @dO - - - - - - - -
Taxable income 14,500 3,300 12,100 18,413 23,002 26,401 28,984 31,018
Income taxes @t 5,800 1,320 4,840 7,365 9,201 10,560 11,594 12,407
Net income 8,700 1,980 7,260 11,048 13,801 15,840 17,391 18,611
Cash Flow Statement
Operating activities
Net income 8,700 1,980 7,260 11,048 13,801 15,840 17,391 18,611
CCA 16,500 28,050 19,635 13,745 9,621 6,735 4,714 3,300
Investment activities
Land
Building
Machines (110,000) 10,000
Others
Disposal tax effect
Land -
Building -
Machines (920)
Others -
Financing activities
Principal portion 40,000 (3,498) (3,848) (4,232) (4,656) (5,121) (5,633) (6,196) (6,816)
Net cash flow (70,000) 21,702 26,182 22,662 20,137 18,301 16,942 15,908 24,175
PE(MARR) = $28,459 Annual loan payment = $7,498
AE(MARR) = $6,135
IRR= 26.00%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-26

10.23 (a) Without debt financing

dB= t= 35% Lease cost


dE= 15% id= Beginning?
dO= MARR= 9% 0
tCG= N= 5
Year 0 1 2 3 4 5
Input Data:
Revenues 1,500 1,500 1,500 1,500 1,500
Expenses
Materials
Labour
Overhead
O&M - - - -
Investments
Land
Building
Machines 6,000 2,000
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - -
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 450 833 708 601 511
Others @dO - - - - - -
Disposal tax effect
Land -
Building -
Machines 314
Others -
Cash Flow Elements:
Revenue (1-t): 975 975 975 975 975
- Costs (1-t): - - - - -
+ Beginning adjust? - - - - - -
- Interest (1-t): - - - - -
+ t CCA: 158 291 248 211 179
Investments (6,000) 2,314
Debts: - - - - - -
Net Cash Flow: (6,000) 1,133 1,266 1,223 1,186 3,468
PE(MARR) = $143
AE(MARR) = $37
IRR= 9.77%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-27

10.23 (b) With debt financing

dB= t= 35% Lease cost


dE= 15% id= 9% Beginning?
dO= MARR= 9% 0
tCG= N= 5
Year 0 1 2 3 4 5
Input Data:
Revenues 1,500 1,500 1,500 1,500 1,500
Expenses
Materials
Labour
Overhead
O&M - - - -
Investments
Land
Building
Machines 6,000 2,000
Others
Borrowed Money: 6,000
Calculated Entries:
Debt principal: 1,003 1,093 1,191 1,298 1,415
Debt interest 540 450 351 244 127
CCA
Building @dB - - - - -
Machines @dE 450 833 708 601 511
Others @dO - - - - -
Disposal tax effect
Land -
Building -
Machines 314
Others -
Cash Flow Elements:
Revenue (1-t): 975 975 975 975 975
- Costs (1-t): - - - - -
+ Beginning adjust? - - - - - -
- Interest (1-t): (351) (292) (228) (159) (83)
+ t CCA: 158 291 248 211 179
Investments (6,000) 2,314
Debts: 6,000 (1,003) (1,093) (1,191) (1,298) (1,415)
Net Cash Flow: - (221) (119) (197) (272) 1,970
PE(MARR) = $633 Annual loan payment = $1,543
AE(MARR) = $163
IRR= 40.72%
(c) The option with debt financing is better. Its PE value is $633, larger than the one
without debt financing (PE of $143).

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-28

*
10.24

dB= t= 40% Lease cost


dE= 30% id= 10% Beginning?
dO= MARR 12% 0
tCG= = 5
N=
Year 0 1 2 3 4 5
Input Data:
Revenues 60,000 60,000 60,000 60,000 60,000
Expenses
Materials
Labour
Overhead
O&M - - - -
Investments
Land
Building
Machines 150,000 50,000
Others
Borrowed Money: 150,000
Calculated Entries:
Debt principal: 24,570 27,027 29,729 32,702 35,972
Debt interest 15,000 12,543 9,840 6,867 3,597
CCA
Building @dB - - - - -
Machines @dE 22,500 38,250 26,775 18,743 13,120
Others @dO - - - - -
Disposal tax effect
Land -
Building -
Machines (7,755)
Others -
Cash Flow Elements:
Revenue (1-t): 36,000 36,000 36,000 36,000 36,000
- Costs (1-t): - - - - -
+ Beginning adjust? - - - - - -
- Interest (1-t): (9,000) (7,526) (5,904) (4,120) (2,158)
+ t CCA: 9,000 15,300 10,710 7,497 5,248
Investments (150,000) 42,245
Debts: 150,000 (24,570) (27,027) (29,729) (32,702) (35,972)
Net Cash Flow: - 11,430 16,748 11,077 6,674 45,362
PE(MARR) = $61,422 Annual loan payment = $39,570
AE(MARR) = $17,039
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-29

10.25 All numbers in '000 dollars

dB= t= 38% Lease cost


dE= 25% id= 12% Beginning?
dO= MARR= 18% 0
tCG= N= 15
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
Input Data:
Revenues 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000 35,000
Expenses
Materials
Labour
Overhead
O&M 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000
Investments
Land
Building
Machines 62,000 9,300
Others
Borrowed Money: 55,800
Calculated Entries:
Debt principal: 55,800
Debt interest 6,696 6,696 6,696 6,696 6,696 6,696 6,696 6,696 6,696 6,696
CCA
Building @dB - - - - - - - - - - - - - - -
Machines @dE 7,750 13,563 10,172 7,629 5,722 4,291 3,218 2,414 1,810 1,358 1,018 764 573 430 322
Others @dO - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines (3,167)
Others -
Cash Flow Elements:
Revenue (1-t): 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700 21,700
- Costs (1-t): (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400) (12,400)
+ Beginning adjust? - - - - - - - - - - - - - - - -
- Interest (1-t): (4,152) (4,152) (4,152) (4,152) (4,152) (4,152) (4,152) (4,152) (4,152) (4,152) - - - - -
+ t CCA: 2,945 5,154 3,865 2,899 2,174 1,631 1,223 917 688 516 387 290 218 163 122
Investments (62,000) 6,133

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-30

Debts: 55,800 - - - - - - - - - (55,800) - - - -


Net Cash Flow: (6,200) 8,093 10,302 9,014 8,047 7,323 6,779 6,371 6,066 5,836 (50,136) 9,687 9,590 9,518 9,463 15,556
PE(MARR) = $24,980 Yes, its PE is greater than 0 at MARR = 18%.
AE(MARR) = $4,906
IRR: 139.95%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-31

Comparing Mutually Exclusive Alternatives


10.26 Option 1: Retained earnings

dB= t= 39% Lease cost


dE= 30% id= Beginning?
dO= MARR= 18% 0
tCG= N= 6
Year 0 1 2 3 4 5 6
Input Data:
Revenues 174,000 174,000 174,000 174,000 174,000 174,000
Expenses
Materials
Labour
Overhead
O&M 22,000 22,000 22,000 22,000 22,000 22,000
Investments
Land
Building
Machines 220,000 30,000
Others 25,000 25,000
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - -
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 33,000 56,100 39,270 27,489 19,242 13,470
Others @dO - - - - - -
Disposal tax effect
Land -
Building -
Machines 557
Others -
Cash Flow Elements:
Revenue (1-t): 106,140 106,140 106,140 106,140 106,140 106,140
- Costs (1-t): (13,420) (13,420) (13,420) (13,420) (13,420) (13,420)
+ Beginning adjust? - - - - - - -
- Interest (1-t): - - - - - -
+ t CCA: 12,870 21,879 15,315 10,721 7,504 5,253
Investments (245,000) 55,557
Debts: - - - - - - -
Net Cash Flow: (245,000) 105,590 114,599 108,035 103,441 100,224 153,530
PE(MARR) = $146,575
AE(MARR) = $41,907
IRR= 38.75%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-32

10.26 Option 2: Amortized loan

dB= t= 39% Lease cost


dE= 30% id= 12% Beginning?
dO= MARR= 18% 0
tCG= N= 6
Year 0 1 2 3 4 5 6
Input Data:
Revenues 174,000 174,000 174,000 174,000 174,000 174,000
Expenses
Materials
Labour
Overhead
O&M 22,000 22,000 22,000 22,000 22,000 22,000
Investments
Land
Building
Machines 220,000 30,000
Others 25,000 25,000
Borrowed Money: 220,000
Calculated Entries:
Debt principal: 27,110 30,363 34,006 38,087 42,658 47,776
Debt interest 26,400 23,147 19,503 15,423 10,852 5,733
CCA
Building @dB - - - - - -
Machines @dE 33,000 56,100 39,270 27,489 19,242 13,470
Others @dO - - - - - -
Disposal tax effect
Land -
Building -
Machines 557
Others -
Cash Flow Elements:
Revenue (1-t): 106,140 106,140 106,140 106,140 106,140 106,140
- Costs (1-t): (13,420) (13,420) (13,420) (13,420) (13,420) (13,420)
+ Beginning adjust? - - - - - - -
- Interest (1-t): (16,104) (14,120) (11,897) (9,408) (6,620) (3,497)
+ t CCA: 12,870 21,879 15,315 10,721 7,504 5,253
Investments (245,000) 55,557
Debts: 220,000 (27,110) (30,363) (34,006) (38,087) (42,658) (47,776)
Net Cash Flow: (25,000) 62,376 70,117 62,132 55,946 50,947 102,257
PE(MARR) = $205,038 Annual loan pay: $53,510
AE(MARR) = $58,623
IRR= 255.17%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-33

10.26 Option 3: Leasing

dB= t= 39% Lease cost


dE= 30% id= Beginning?
dO= MARR= 18% 1
tCG= N= 6
Year 0 1 2 3 4 5 6
Input Data:
Revenues 174,000 174,000 174,000 174,000 174,000 174,000
Expenses
Materials
Labour
Overhead 22,000 22,000 22,000 22,000 22,000 22,000
O&M 55,000 55,000 55,000 55,000 55,000 55,000
Investments
Land
Building
Machines
Others 25,000 25,000
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - -
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE - - - - - -
Others @dO - - - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): 106,140 106,140 106,140 106,140 106,140 106,140
- Costs (1-t): (46,970) (46,970) (46,970) (46,970) (46,970) (13,420)
+ Beginning adjust? (55,000) 21,450
- Interest (1-t): - - - - - -
+ t CCA: - - - - - -
Investments (25,000) 25,000
Debts: - - - - - - -
Net Cash Flow: (80,000) 59,170 59,170 59,170 59,170 59,170 139,170
PE(MARR) = $156,588
AE(MARR) = $44,770
IRR= 73.96%
Conclusion: Option 2 is the best with the highest PE value. Buy the machine via borrowing.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-34

*
10.27 Option 1: Leasing
dB= t= 40% Lease
dE= id= cost
dO= MARR= 12% Beginnin
tCG= N= 30 g?
1
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30
Input Data:
Revenues - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
O&M 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000 84,000
Investments
Land
Building
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Machines @dE - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Others @dO - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) -
+ Beginning adjust? (84,000) 33,600
- Interest (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
+ t CCA: - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Investments - -
Debts: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: (84,000) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) (50,400) 33,600
PE(MARR) = $(487,178)
AE(MARR) = $(60,480)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-35

*
10.27 Option 2: Purchase
dB= 4% t= 40% Lease cost
dE= id= Beginning
dO= MARR= 12% ?
tCG= N= 30 1
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30
Input Data:
Revenues - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500 42,500
O&M (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000) (60,000)
Investments
Land 150,000 150,000
Building 700,000 70,000
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB 14,000 27,440 26,342 25,289 24,277 23,306 22,374 21,479 20,620 19,795 19,003 18,243 17,513 16,813 16,140 15,495 14,875 14,280 13,709 13,160 12,634 12,129 11,643 11,178 10,731 10,301 9,889 9,494 9,114 8,749
Machines @dE - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Others @dO - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building 55,994
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 10,500 (25,500)
+ Beginning adjust? 60,000 (24,000)
- Interest (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
+ t CCA: 5,600 10,976 10,537 10,115 9,711 9,322 8,950 8,592 8,248 7,918 7,601 7,297 7,005 6,725 6,456 6,198 5,950 5,712 5,483 5,264 5,054 4,851 4,657 4,471 4,292 4,121 3,956 3,797 3,646 3,500
Investments (850,000) 275,994
Debts: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: (790,000) 16,100 21,476 21,037 20,615 20,211 19,822 19,450 19,092 18,748 18,418 18,101 17,797 17,505 17,225 16,956 16,698 16,450 16,212 15,983 15,764 15,554 15,351 15,157 14,971 14,792 14,621 14,456 14,297 14,146 229,994
PE(MARR) = $(632,662
)
AE(MARR) = $(78,541)
IRR= -0.43%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-36

*
10.27 Option 3: Remodelling
dB= 4% t= 40% Lease cost
dE= id= Beginning?
dO= MARR= 12% 1
tCG= N= 30
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30
Input Data:
Revenues - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000 33,000
O&M 9,000 9,500 10,000 10,500 11,000 11,500 12,000 12,500 13,000 13,500 14,000 14,500 15,000 15,500 16,000 16,500 17,000 17,500 18,000 18,500 19,000 19,500 20,000 20,500 21,000 21,500 22,000 22,500 23,000 23,500
Investments
Land 60,000
Building 300,000 60,000
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB 6,000 11,760 11,290 10,838 10,404 9,988 9,589 9,205 8,837 8,484 8,144 7,818 7,506 7,205 6,917 6,641 6,375 6,120 5,875 5,640 5,415 5,198 4,990 4,790 4,599 4,415 4,238 4,069 3,906 3,750
Machines @dE - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Others @dO - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building 11,998
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): (25,500) (25,800) (26,100) (26,400) (26,700) (27,000) (27,300) (27,600) (27,900) (28,200) (28,500) (28,800) (29,100) (29,400) (29,700) (30,000) (30,300) (30,600) (30,900) (31,200) (31,500) (31,800) (32,100) (32,400) (32,700) (33,000) (33,300) (33,600) (33,900) (19,800)
+ Beginning adjust? (9,000) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) (200) 9,400
- Interest (1-t): - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
+ t CCA: (300,000) 2,400 4,704 4,516 4,335 4,162 3,995 3,836 3,682 3,535 3,393 3,258 3,127 3,002 2,882 2,767 2,656 2,550 2,448 2,350 2,256 2,166 2,079 1,996 1,916 1,840 1,766 1,695 1,627 1,562 1,500
Investments 131,998
Debts: - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: ( 309,000) (23,300) (21,296) (21,784) (22,265) (22,738) (23,205) (23,664) (24,118) (24,565) (25,007) (25,442) (25,873) (26,298) (26,718) (27,133) (27,544) (27,950) (28,352) (28,750) (29,144) (29,534) (29,921) (30,304) (30,684) (31,060) (31,434) (31,805) (32,173) (32,538) 123,097
PE(MARR) = $(500,353)
AE(MARR) = $(62,116)
IRR= Undefined
Conclusion: Option 1 (leasing) is the best as it has the least negative PE value.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-37

10.28 Option 1: Plant A All numbers in '000 dollars


dB= t= 39% Lease cost
dE= 30% id= Beginning?
dO= MARR= 12%
tCG= N= 20
0
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Input Data:
Revenues - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead - - - - - - - - - - - - - - - - - - -
O&M 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964 1,964
Investments
Land
Building -
Machines 8,530 853
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB - - - - - - - - - - - - - - - - - - -
Machines @dE 1,280 2,175 1,523 1,066 746 522 366 256 179 125 88 61 43 30 21 15 10 7 5 4
Others @dO - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines (329)
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198) (1,198)
+ Beginning adjust? - - - - - - - - - - - - - - - - - - - -
- Interest (1-t): - - - - - - - - - - - - - - - - - - -
+ t x CCA: 499 848 594 416 291 204 143 100 70 49 34 24 17 12 8 6 4 3 2 1
Investments (8,530) 524
Debts: - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: (8,530) (699) (350) (604) (782) (907) (994) (1,055) (1,098) (1,128) (1,149) (1,164) (1,174) (1,181) (1,186) (1,190) (1,192) (1,194) (1,195) (1,196) (673)
PE(MARR) = $(15,176) Power needs/year = 50,000,000 kWh
AE(MARR) = $(2,032) Unit power cost = $ 0.0406 /kwh
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-38

10.28 Option 2: Plant B All numbers in '000 dollars


dB= t= 39% Lease cost
dE= 30% id= Beginning?
dO= MARR= 12%
tCG= N= 20
0
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Input Data:
Revenues - - - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead - - - - - - - - - - - - - - - - - - -
O&M 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744 1,744
Investments
Land
Building -
Machines 9,498 950
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB - - - - - - - - - - - - - - - - - - - -
Machines @dE 1,425 2,422 1,695 1,187 831 582 407 285 199 140 98 68 48 34 23 16 11 8 6 4
Others @dO - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines (367)
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064) (1,064)
+ Beginning adjust? - - - - - - - - - - - - - - - - - - - - -
- Interest (1-t): - - - - - - - - - - - - - - - - - - - -
+ t CCA: 556 945 661 463 324 227 159 111 78 54 38 27 19 13 9 6 4 3 2 2
Investments (9,498) 583
Debts: - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: (9,498) (508) (119) (403) (601) (740) (837) (905) (953) (986) (1,009) (1,026) (1,037) (1,045) (1,051) (1,055) (1,057) (1,059) (1,061) (1,064) (479)
PE(MARR) = $(14,880)
AE(MARR) = $(1,992) Unit power cost = $ 0.0398 /kWh
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-39

10.28 Option 3: Plant C All numbers in '000 dollars


dB= t= 39% Lease cost
dE= 30% id= Beginning?
dO= MARR= 12% 0
tCG= N= 20
Year 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Input Data:
Revenues - - - - - - - - - - - - - - - - - - -
Expenses
Materials
Labour
Overhead - - - - - - - - - - - - - - - - - - -
O&M 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632 1,632
Investments
Land
Building -
Machines 10,546 1,055
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - - - - - - - - - - - -
Debt interest - - - - - - - - - - - - - - - - - - - -
CCA
Building @dB - - - - - - - - - - - - - - - - - - - -
Machines @dE 1,582 2,689 1,882 1,318 922 646 452 316 221 155 109 76 53 37 26 18 13 9 6 4
Others @dO - - - - - - - - - - - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines (407)
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - - - - - - - - - - - -
- Costs (1-t): (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996) (996)
+ Beginning adjust? - - - - - - - - - - - - - - - - - - - - -
- Interest (1-t): - - - - - - - - - - - - - - - - - - - -
+ t CCA 617 1,049 734 514 360 252 176 123 86 60 42 30 21 15 10 7 5 3 2 2
Investments (10,546) 647
Debts: - - - - - - - - - - - - - - - - - - - - -
Net Cash Flow: (10,546) (379) 53 (261) (482) (636) (744) (819) (872) (909) (935) (953) (966) (975) (981) (985) (988) (991) (992) (993) (347)
PE(MARR) = $(15,13
5)
AE(MARR) = $(2,026) Unit power cost = $0.0405 /kWh
IRR = Undefined
Conclusion: Plant B is the best as it has the lowest cost per kWh of power generated.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-40

Lease-Versus-Buy Decisions
10.29 Option 1: Leasing

dB= t= 40% Lease cost


dE= id= Beginning?
dO= MARR= 15% 1
tCG= N= 4
Year 0 1 2 3 4
Input Data:
Revenues - - -
Expenses
Materials
Labour
Overhead - - -
O&M 11,000 11,000 11,000 11,000
Investments
Land
Building -
Machines -
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - -
Debt interest - - - -
CCA
Building @dB - - - -
Machines @dE - - - -
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - -
- Costs (1-t): (6,600) (6,600) (6,600) -
+ Beginning adjust? (11,000) - - - 4,400
- Interest (1-t): - - - -
+ t CCA: - - - -
Investments - -
Debts: - - - - -
Net Cash Flow: (11,000) (6,600) (6,600) (6,600) 4,400
PE(MARR) = $(23,554)
AE(MARR) = $(8,250)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-41

10.29 Option 2: Buying

dB= t= 40% Lease cost


dE= 30% id= 12% Beginning?
dO= MARR= 15% 0
tCG= N= 4
Year 0 1 2 3 4
Input Data:
Revenues - - -
Expenses
Materials
Labour
Overhead - - -
O&M 1,200 1,200 1,200 1,200
Investments
Land
Building -
Machines 41,000 10,000
Others
Borrowed Money: 41,000
Calculated Entries:
Debt principal: 8,579 9,608 10,761 12,052
Debt interest 4,920 3,891 2,738 1,446
CCA
Building @dB - - - -
Machines @dE 6,150 10,455 7,319 5,123
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines 781
Others -
Cash Flow Elements:
Revenue (1-t): - - - -
- Costs (1-t): (720) (720) (720) (720)
+ Beginning adjust? - - - - -
- Interest (1-t): (2,952) (2,334) (1,643) (868)
+ t CCA: 2,460 4,182 2,927 2,049
Investments (41,000) 10,781
Debts: 41,000 (8,579) (9,608) (10,761) (12,052)
Net Cash Flow: - (9,791) (8,480) (10,196) (809)
PE(MARR) = $(22,093) Annual loan payment 13,499
AE(MARR) = $(7,738)
IRR= Undefined
Conclusion: Buying is better as it has a less negative PE value.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-42

*
10.30 The buy option

dB= t= 40% Lease cost


dE= 30% id= 10% Beginning?
dO= MARR= 15% 0
tCG= N= 4
Year 0 1 2 3 4
Input Data:
Revenues 200,000 200,000 200,000 200,000
Expenses
Materials
Labour
Overhead 10,000 10,000 10,000 10,000
O&M 40,000 40,000 40,000 40,000
Investments
Land
Building -
Machines 130,000 20,000
Others
Borrowed Money: 130,000
Calculated Entries:
Debt principal: 28,011 30,812 33,894 37,283
Debt interest 13,000 10,199 7,118 3,728
CCA
Building @dB - - - -
Machines @dE 19,500 33,150 23,205 16,244
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines 7,161
Others -
Cash Flow Elements:
Revenue (1-t): 120,000 120,000 120,000 120,000
- Costs (1-t): (30,000) (30,000)(30,000) (30,000)
+ Beginning adjust? - - - - -
- Interest (1-t): (7,800) (6,119) (4,271) (2,237)
+ t CCA: 7,800 13,260 9,282 6,497
Investments (130,000) 27,161
Debts: 130,000 (28,011) (30,812) (33,894) (37,283)
Net Cash Flow: - 61,989 66,328 61,118 84,138
PE(MARR) = $192,349 Annual loan payment: 41,011
AE(MARR) = $67,373
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-43

*
10.30 The lease option

dB= t= 40% Lease cost


dE= id= Beginning?
dO= MARR= 15% 1
tCG= N= 4
Year 0 1 2 3 4
Input Data:
Revenues 200,000 200,000 200,000 200,000
Expenses
Materials
Labour
Overhead 40,000 40,000 40,000 40,000
O&M 44,000 44,000 44,000 44,000
Investments
Land
Building -
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - -
Debt interest - - - -
CCA
Building @dB - - - -
Machines @dE - - - -
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): 120,000 120,000 120,000 120,000
- Costs (1-t): (50,400) (50,400) (50,400) (24,000)
+ Beginning adjust? (44,000) - - - 17,600
- Interest (1-t): - - - -
+ t CCA: - - - -
Investments - -
Debts: - - - - -
Net Cash Flow: (44,000) 69,600 69,600 69,600 113,600
PE(MARR) = $179,864 -
AE(MARR) = $63,000
IRR= 158.18%
Conclusion: The buy option is better because its PE value is larger.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-44

10.31 The borrow-and-purchase option

dB= t= 40% Lease cost


dE= 30% id= 10% Beginning?
dO= MARR= 15% 0
tCG= N= 4
Year 0 1 2 3 4
Input Data:
Revenues - - -
Expenses
Materials
Labour
Overhead - - -
O&M 12,000 12,000 12,000 12,000
Investments
Land
Building -
Machines 200,000 20,000
Others
Borrowed Money: 200,000
Calculated Entries:
Debt principal: 43,094 47,404 52,144 57,358
Debt interest 20,000 15,691 10,950 5,736
CCA
Building @dB - - - -
Machines @dE 30,000 51,000 35,700 24,990
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines 15,324
Others -
Cash Flow Elements:
Revenue (1-t): - - - -
- Costs (1-t): (7,200) (7,200) (7,200) (7,200)
+ Beginning adjust? - - - - -
- Interest (1-t): (12,000) (9,414) (6,570) (3,441)
+ t CCA: 12,000 20,400 14,280 9,996
Investments (200,000) 35,324
Debts: 200,000 (43,094) (47,404) (52,144) (57,358)
Net Cash Flow: - (50,294) (43,618) (51,634) (22,680)
PE(MARR) = $(123,633) Annual debt payment: $63,094
AE(MARR) = $(43,304)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-45

10.31 The lease option

dB= t= 40% Lease cost


dE= id= Beginning
dO= MARR= 15% ?
tCG= N= 4 0
Year 0 1 2 3 4
Input Data:
Revenues - - -
Expenses
Materials
Labour
Overhead - - -
O&M 70,000 70,000 70,000 70,000
Investments
Land
Building -
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - -
Debt interest - - - -
CCA
Building @dB - - - -
Machines @dE - - - -
Others @dO - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - -
- Costs (1-t): (42,000) (42,000) (42,000) (42,000)
+ Beginning adjust? - - - - -
- Interest (1-t): - - - -
+ t CCA: - - - -
Investments - -
Debts: - - - - -
Net Cash Flow: - (42,000) (42,000) (42,000) (42,000)
PE(MARR) = $(119,909) -
AE(MARR) = $(42,000)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-46

10.32 The buy option

dB= t= 35% Lease cost


dE= 30% id= 12.6% Beginning?
dO= MARR= 13% 0
tCG= N= 3
Year 0 1 2 3
Input Data:
Revenues -
Expenses
Materials
Labour
Overhead -
O&M -
Investments
Land
Building -
Machines 18,000 5,800
Others
Borrowed Money: 18,000
Calculated Entries:
Debt principal: 5,304 5,972 6,724
Debt interest 2,268 1,600 847
CCA
Building @dB - - -
Machines @dE 2,700 4,590 3,213
Others @dO - - -
Disposal tax effect
Land -
Building -
Machines 594
Others -
Cash Flow Elements:
Revenue (1-t): - - -
- Costs (1-t): - - -
+ Beginning adjust? - - - -
- Interest (1-t): (1,474) (1,040) (551)
+ t CCA: 945 1,607 1,125
Investments (18,000) 6,394
Debts: 18,000 (5,304) (5,972) (6,724)
Net Cash Flow: - (5,833) (5,405) 243
PE(MARR) = $(9,226) Loan pay/yr: $7,572
AE(MARR) = $(3,908)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-47

10.32 The lease option

dB= t= 35% Lease cost


dE= id= Beginning?
dO= MARR= 13% 1
tCG= N= 3
Year 0 1 2 3
Input Data:
Revenues -
Expenses
Materials
Labour
Overhead -
O&M 5,100 5,100 5,100
Investments
Land
Building -
Machines
Others 500 500
Borrowed Money:
Calculated Entries:
Debt principal: - - -
Debt interest - - -
CCA
Building @dB - - -
Machines @dE - - -
Others @dO - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - -
- Costs (1-t): (3,315 (3,315) -
)
+ Beginning adjust? (5,100) - - 1,785
- Interest (1-t): - - -
+ t CCA: - - -
Investments (500) 500
Debts: - - - -
Net Cash Flow: (5,600) (3,315) (3,315) 2,285
PE(MARR) = $(9,546) -
AE(MARR) = $(4,043)
IRR= Undefined
Conclusion: The buy option is better with a higher PE value.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-48

10.33 The lease option

dB= t= 40% Lease cost


dE= id= Beginning?
dO= MARR 15% 1
tCG= = 3
N=
Year 0 1 2 3
Input Data:
Revenues -
Expenses
Materials
Labour
Overhead -
O&M 15,000 15,000 15,000
Investments
Land
Building -
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - -
Debt interest - - -
CCA
Building @dB - - -
Machines @dE - - -
Others @dO - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - -
- Costs (1-t): (9,000) (9,000) -
+ Beginning adjust? (15,000) - - 6,000
- Interest (1-t): - - -
+ t CCA: - - -
Investments - -
Debts: - - - -
Net Cash Flow: (15,000) (9,000) (9,000) 6,000
PE(MARR) = $(25,686) -
AE(MARR) = $(11,250)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-49

10.33 The buy option

dB= t= 40% Lease cost


dE= 30% id= 12% Beginning?
dO= MARR= 15% 0
tCG= N= 3
Year 0 1 2 3
Input Data:
Revenues -
Expenses
Materials
Labour
Overhead -
O&M 5,000 5,000 5,000
Investments
Land
Building -
Machines 80,000 50,000
Others
Borrowed Money: 80,000
Calculated Entries:
Debt principal: 23,708 26,553 29,739
Debt interest 9,600 6,755 3,569
CCA
Building @dB - - -
Machines @dE 12,000 20,400 14,280
Others @dO - - -
Disposal tax effect
Land -
Building -
Machines (6,672)
Others -
Cash Flow Elements:
Revenue (1-t): - - -
- Costs (1-t): (3,000) (3,000) (3,000)
+ Beginning adjust? - - - -
- Interest (1-t): (5,760) (4,053) (2,141)
+ t CCA: 4,800 8,160 5,712
Investments (80,000) 43,328
Debts: 80,000 (23,708) (26,553) (29,739)
Net Cash Flow: - (27,668) (25,446) 14,160
PE(MARR) = $(33,990) Loan pay/yr: $33,308
AE(MARR) = $(14,887)
IRR= Undefined
Conclusion: The lease option is much better.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-50

*
10.34 The buy option

dB= t= 30% Lease cost


dE= 20% id= 12% Beginning?
dO= MARR= 10% 0
tCG= N= 5
Year 0 1 2 3 4 5
Input Data:
Revenues 10,000 10,000 10,000 10,000 10,000
Expenses
Materials
Labour
Overhead - - - -
O&M 2,500 2,500 2,500 2,500 2,500
Investments
Land
Building -
Machines 25,000 5,000
Others
Borrowed Money: 25,000
Calculated Entries:
Debt principal: 3,935 4,407 4,936 5,529 6,192
Debt interest 3,000 2,528 1,999 1,407 743
CCA
Building @dB - - - - -
Machines @dE 2,500 4,500 3,600 2,880 2,304
Others @dO - - - - -
Disposal tax effect
Land -
Building -
Machines 1,265
Others -
Cash Flow Elements:
Revenue (1-t): 7,000 7,000 7,000 7,000 7,000
- Costs (1-t): (1,750) (1,750) (1,750) (1,750) (1,750)
+ Beginning adjust? - - - - - -
- Interest (1-t): (2,100) (1,769) (1,399) (985) (520)
+ t CCA: 750 1,350 1,080 864 691
Investments (25,000) 6,265
Debts: 25,000 (3,935) (4,407) (4,936) (5,529) (6,192)
Net Cash Flow: - (35) 423 (6) (399) 5,494
PE(MARR) = $3,452 Annual debt payment: $6,935
AE(MARR) = $911
IRR= N/A

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-51

*
10.34 The lease option

dB= t= 30% Lease cost


dE= id= Beginning?
dO= MARR= 10% 1
tCG= N= 5
Year 0 1 2 3 4 5
Input Data:
Revenues 10,000 10,000 10,000 10,000 10,000
Expenses
Materials
Labour
Overhead 2,500 2,500 2,500 2,500 2,500
O&M 3,500 3,500 3,500 3,500 3,500
Investments
Land
Building -
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - -
Debt interest - - - - -
CCA
Building @dB - - - - -
Machines @dE - - - - -
Others @dO - - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): 7,000 7,000 7,000 7,000 7,000
- Costs (1-t): (4,200) (4,200) (4,200) (4,200) (1,750)
+ Beginning adjust? (3,500) - - - - 1,050
- Interest (1-t): - - - - -
+ t CCA: - - - - -
Investments - -
Debts: - - - - - -
Net Cash Flow: (3,500) 2,800 2,800 2,800 2,800 6,300
PE(MARR) = $9,287 -
AE(MARR) = $2,450
IRR= 80.00%
Conclusion: The lease option is better with a higher PE value.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-52

10.35 Buy and lease out

dB= t= 35% Lease cost


dE= 40% id= Beginning?
dO= MARR= 10% 1
tCG= N= 3
Year 0 1 2 3
Input Data:
Revenues -
Expenses
Materials
Labour
Overhead -
O&M (14,431) (14,431) (14,431)
Investments
Land
Building -
Machines 53,000 22,000
Others (1,500) (1,500)
Borrowed Money:
Calculated Entries:
Debt principal: - - -
Debt interest - - -
CCA
Building @dB - - -
Machines @dE 10,600 16,960 10,176
Others @dO - - -
Disposal tax effect
Land -
Building -
Machines (2,358)
Others -
Cash Flow Elements:
Revenue (1-t): - - -
- Costs (1-t): 9,380 9,380 -
+ Beginning adjust? 14,431 - - (5,051)
- Interest (1-t): - - -
+ t CCA: 3,710 5,936 3,562
Investments (51,500) 18,142
Debts: - - - -
Net Cash Flow: (37,069) 13,090 15,316 16,653
PE(MARR) = - -
AE(MARR) = -
IRR= 10.00%
Conclusion: Charge $14,431 at the beginning of each year for three years.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-53

Short Case Studies


ST10.1 (a) and (b) All numbers in '000 dollars

dB= 4% t= 40%
dE= 30% id=
dO= MARR= 15%
tCG= 20% N= 12%
Year 0 1 2 3 4 5 6 7 8 9 10 11 12
Income Statement
Revenues 51,000 51,000 51,000 51,000 85,000 85,000 85,000 136,000 136,000 136,000 136,000 136,000
Expenses
Materials
Labour
Overhead
O&M 36,000 36,000 36,000 36,000 60,000 60,000 60,000 96,000 96,000 96,000 96,000 96,000
Debt interest - - - - - - - - - - - -
CCA
Building @dB 800 1,568 1,505 1,445 1,387 1,332 1,279 1,227 1,178 1,131 1,086 1,042
Machines @dE 14,250 24,225 16,958 11,870 8,309 5,816 4,071 2,850 1,995 1,397 978 684
Others @dO - - - - - - - - - - - -
Taxable income (50) (10,793) (3,463) 1,685 15,304 17,852 19,650 35,923 36,827 37,472 37,937 38,273
Income taxes @t (20) (4,317) (1,385) 674 6,121 7,141 7,860 14,369 14,731 14,989 15,175 15,309
Net income (30) (6,476) (2,078) 1,011 9,182 10,711 11,790 21,554 22,096 22,483 22,762 22,964
Cash Flow Statement
Operating activities
Net income (30) (6,476) (2,078) 1,011 9,182 10,711 11,790 21,554 22,096 22,483 22,762 22,964
CCA 15,050 25,793 18,463 13,315 9,696 7,148 5,350 4,077 3,173 2,528 2,063 1,727
Investment activities

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-54

Land (5,000) 8,000


Building (40,000) 30,000
Machines (95,000) 10,000
Others
Disposal tax effect
Land (600)
Building (1,992)
Machines (3,361)
Others -
Financing activities
Principal portion - - - - - - - - - - - -
Net cash flow (140,000) 15,020 19,317 16,385 14,326 18,879 17,859 17,140 25,631 25,269 25,011 24,825 66,737
PE(MARR) = $(30,264)
AE(MARR) = $(5,583)
IRR= 10.55%

(c) The project should be rejected as its IRR is lower than the MARR of 15%.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-55

ST10.2 Morgantown Mining Company

(a) Unit-production method

(Units are thousand dollars)


0 1 2 3 4 5 6 7 8 9 10
Income Statement
Revenues (savings) $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500
Expenses:
O&M $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400
Depreciation $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880
Taxable Income $5,220 $5,220 $5,220 $5,220 $5,220 $5,220 $5,220 $5,220 $5,220 $5,220
Income Taxes (40%) $2,088 $2,088 $2,088 $2,088 $2,088 $2,088 $2,088 $2,088 $2,088 $2,088
Net Income $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132
Cash Flow Statement
Operating Activities:
Net Income $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132 $3,132
Depreciation $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880 $1,880
Investment Activities:
Investment ($19,300)
Salvage $500
Gains Tax
Working capital ($2,500) $2,500
Net Cash Flow ($21,800) $5,012 $5,012 $5,012 $5,012 $5,012 $5,012 $5,012 $5,012 $5,012 $8,012

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-56

(b) Seven-year MACRS

(Units are thousand dollars)


0 1 2 3 4 5 6 7 8 9 10
Income Statement
Revenues (savings) $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500 $9,500
Expenses:
O&M $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400 $2,400
Depreciation $2,758 $4,727 $3,376 $2,411 $1,723 $1,722 $1,723 $861 $0 $0
Taxable Income $4,342 $2,373 $3,724 $4,689 $5,377 $5,378 $5,377 $6,239 $7,100 $7,100
Income Taxes (40%) $1,737 $949 $1,490 $1,876 $2,151 $2,151 $2,151 $2,496 $2,840 $2,840

Net Income $2,605 $1,424 $2,235 $2,814 $3,226 $3,227 $3,226 $3,744 $4,260 $4,260
Cash Flow Statement
Operating Activities:
Net Income $2,605 $1,424 $2,235 $2,814 $3,226 $3,227 $3,226 $3,744 $4,260 $4,260
Depreciation $2,758 $4,727 $3,376 $2,411 $1,723 $1,722 $1,723 $861 $0 $0
Investment Activities:
Investment ($19,300)
Salvage $500
Gains Tax ($200)
Working capital ($2,500) $2,500
Net Cash Flow ($21,800) $5,363 $6,151 $5,610 $5,224 $4,949 $4,949 $4,949 $4,604 $4,260 $7,060

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-57

ST10.3 (a) Equity financing

dB= t= 40%
dE= 30% id=
dO= MARR= 20%
tCG= N= 6
Year 0 1 2 3 4 5 6
Income Statement
Revenues 349,000 349,000 349,000 349,000 349,000 349,000
Expenses
Materials 140,000 140,000 140,000 140,000 140,000 140,000
Labour
Overhead 20,000
O&M 36,000 36,000 36,000 36,000 36,000 36,000
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE 36,000 61,200 42,840 29,988 20,992 14,694
Others @dO - - - - - -
Taxable income 117,000 111,800 130,160 143,012 152,008 158,306
Income taxes @t 46,800 44,720 52,064 57,205 60,803 63,322
Net income 70,200 67,080 78,096 85,807 91,205 94,984
Cash Flow Statement
Operating activities
Net income 70,200 67,080 78,096 85,807 91,205 94,984
CCA 36,000 61,200 42,840 29,988 20,992 14,694
Investment activities
Land
Building
Machines (240,000) 30,000
Others
Disposal tax effect
Land -
Building -
Machines 1,715
Others -
Financing activities
Principal portion - - - - - -
Net cash flow (240,000) 106,200 128,280 120,936 115,795 112,197 141,392
PE(MARR) = $155,853 -
AE(MARR) = $46,866
IRR= 43.31%

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-58

ST 10.3 (b) Debt financing

dB= t= 40%
dE= 30% id= 13%
dO= MARR= 20%
tCG= N= 6
Year 0 1 23 4 5 6
Income Statement
Revenues 349,000 349,000 349,000 349,000 349,000 349,000
Expenses
Materials 140,000 140,000 140,000 140,000 140,000 140,000
Labour
Overhead 20,000
O&M 36,000 36,000 36,000 36,000 36,000 36,000
Debt interest 31,200 27,451 23,215 18,428 13,019 6,907
CCA
Building @dB - - - - - -
Machines @dE 36,000 61,200 42,840 29,988 20,992 14,694
Others @dO - - - - - -
Taxable income 85,800 84,349 106,945 124,584 138,989 151,399
Income taxes @t 34,320 33,740 42,778 49,833 55,596 60,560
Net income 51,480 50,609 64,167 74,750 83,394 90,839
Cash Flow Statement
Operating activities
Net income 51,480 50,609 64,167 74,750 83,394 90,839
CCA 36,000 61,200 42,840 29,988 20,992 14,694
Investment activities
Land
Building
Machines (240,000) 30,000
Others
Disposal tax effect
Land -
Building -
Machines 1,715
Others -
Financing activities
Principal portion 240,000 (28,837) (32,586) (36,822) (41,608) (47,018) (53,130)
Net cash flow - 58,643 79,224 70,185 63,130 57,368 84,118
PE(MARR) = $226,173 Annual debt payment $60,037
AE(MARR) = $68,011
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-59

ST 10.3 (c) Lease financing

dB= t= 40% Lease cost


dE= id= Beginning?
dO= MARR= 20% 1
tCG= N= 6
Year 0 1 2 3 4 5 6
Input Data:
Revenues 349,000 349,000 349,000 349,000 349,000 349,000
Expenses
Materials 140,000 140,000 140,000 140,000 140,000 140,000
Labour 20,000
Overhead 36,000 36,000 36,000 36,000 36,000 36,000
O&M 62,560 62,560 62,560 62,560 62,560 62,560
Investments
Land
Building
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - -
Debt interest - - - - - -
CCA
Building @dB - - - - - -
Machines @dE - - - - - -
Others @dO - - - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): 209,400 209,400 209,400 209,400 209,400 209,400
- Costs (1-t): (155,136) (143,136) (143,136) (143,136) (143,136) (105,600)
+ Beginning adjust? (62,560) - - - - - 25,024
- Interest (1-t): - - - - - -
+ t CCA: - - - - - -
Investments - -
Debts: - - - - - - -
Net Cash Flow: (62,560) 54,264 66,264 66,264 66,264 66,264 128,824
PE(MARR) = $168,75
3
AE(MARR) = $50,745
IRR= 96.34%
Conclusion: The debt financing option is the best with the highest PE value.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-60

ST 10.4 (a) Option 1: Lease

dB= t= 35% Lease cost


dE= id= Beginning?
dO= MARR= 15% 1
tCG= N= 10
Year 0 1 2 3 4 5 6 7 8 9 10
Input Data:
Revenues - - - - - - - - -
Expenses
Materials 1,660 1,660 1,660 1,660 1,660 1,660 1,660 1,660 1,660 1,660
Labour 58,683 58,683 58,683 58,683 58,683 58,683 58,683 58,683 58,683 58,683
Overhead 10,000 10,000 10,000 10,000 10,000 10,000 10,000 10,000 10,000 10,000
O&M 11,782 11,782 11,782 11,782 11,782 11,782 11,782 11,782 11,782 11,782
Investments
Land
Building
Machines
Others
Borrowed Money:
Calculated Entries:
Debt principal: - - - - - - - - - -
Debt interest - - - - - - - - - -
CCA
Building @dB - - - - - - - - - -
Machines @dE - - - - - - - - - -
Others @dO - - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines -
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - -
- Costs (1-t): (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (45,723)
+ Beginning adjust? (11,782) - - - - - - - - - 4,124
- Interest (1-t): - - - - - - - - - -
+ t CCA: - - - - - - - - - -
Investments - -
Debts: - - - - - - - - - - -
Net Cash Flow: (11,782) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (53,381) (41,599)
PE(MARR) = $(276,778
)
AE(MARR) = $(55,149)
IRR= Undefined

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.


10-61

ST 10.4 (a) Option 2: Buy

dB= t= 35% Lease cost


dE= 30% id= 10% Beginning?
dO= MARR= 15% 1
tCG= N= 10
Year 0 1 2 3 4 5 6 7 8 9 10
Input Data:
Revenues - - - - - - - - -
Expenses
Materials
Labour
Overhead
O&M 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000 20,000
Investments
Land
Building
Machines 209,000 -
Others
Borrowed Money: 209,000
Calculated Entries:
Debt principal: 34,234 37,657 41,423 45,565 50,122
Debt interest 20,900 17,477 13,711 9,569 5,012
CCA
Building @dB - - - - - - - - -

Machines @dE 31,350 53,295 37,307 26,115 18,280 12,796 8,957 6,270 4,389 3,072
Others @dO - - - - - - - - -
Disposal tax effect
Land -
Building -
Machines 2,509
Others -
Cash Flow Elements:
Revenue (1-t): - - - - - - - - - -
- Costs (1-t): (13,000) (13,000) (13,000) (13,000) (13,000) (13,000) (13,000) (13,000) (13,000) -
+ Beginning adjust? (20,000) - - - - - - - - - 7,000
- Interest (1-t): (13,585) (11,360) (8,912) (6,220) (3,258) - - - - -
+ t CCA: 10,973 18,653 13,057 9,140 6,398 4,479 3,135 2,195 1,536 1,075
Investments (209,000) 2,509
Debts: 209,000 (34,234) (37,657) (41,423) (45,565) (50,122) - - - - -
Net Cash Flow: (20,000) (49,846) (43,364) (50,278) (55,645) (59,981) (8,521) (9,865) (10,805) (11,464) 10,584
PE(MARR) = $(202,396) Annual debt pay: $55,134
AE(MARR) = $(40,328)
IRR= Undefined

(b) The buy option is better because its PE value is less negative.

Copyright 2012 Pearson Canada Inc., Toronto, Ontario.