Accounting Problem 9-1, 9-3, 9-5, 9-6, 9-11, 9-12, 11-9, 10-11, 10-1

PROBLEM 9-1. Present Value Analysis
James Hardy recently rejected a $20,000,000, five-year contract with the Vancouver Seals.
The contract offer called for an immediate signing bonus of $7,500,000 and annual
payments of $2,500,000. To sweeten the deal, the president of player personnel for the
Seals has now offered a $22,000,000, five-year contract. This contract calls for annual
increases and a balloon payment at the end of five years.
Year 1
Year 2
Year 3
Year 4
YearS
Year 5 balloon pymt
Total

$2,500,000
2,600,000
2,700,000
2,800,000
2,900,000
8,500,000
$22,000,000

Required
Suppose you are Hardy's agent and you wish to evaluate the two contracts using a required
rate of return of 15 percent. In present value terms, how much better is the second contract

PROBLEM 9-3. Choosing Among Alternative Investments
Quality Shoe Company is considering investing in one of two machines that attach heels to shoes. Machine A costs 70,000
and is expected to save the company 20,000 per year for six years. Machine B costs 85,000 and is expected to save the company 25,000 per year
for six years. Determine the net present value for each machine and which machine should be purchased if the required rate of return is 13 percent, ignore taxes.

PROBLEM 9-4. Present Value and “What If” Analysis
National Cruise Line, Inc. is considering the acquisition of a new ship that will cost
$200,000,000. In president of the company asked the CFO to analyze cash flows associated
In this regard, thethis regard, the president of the company asked the CFO to analyze cash with operating the
flows associated with operating the ship under two alternative itineraries: Itinerary 1, Caribbean
ship under two alternative itineraries: Itinerary 1, Caribbean Winter/Alaska Summer and Itinerary 2, Caribbean
Winter/Alaska Canada Summer. The CFO estimated the following cash flows, which are expected to apply to
Winter/EasternSummer and Itinerary 2, Caribbean Winter/Eastern Canada Summer. The CFO
estimated the following cash flows, which are expected to apply to each of the next 15 years:
each of the next
15
years:
Caribbean/Alaska
Caribbean/Eastern Canada
Net revenue
$120,000,000
$105,000,000
Less:
Direct program expenses
25,000,000
24,000,000
Indirect program expenses
20,000,000
20,000,000
Non-operating expenses
21,000,000
21,000,000
Add back depreciation
115,000,000
115,000,000
Cash flow per year
$169,000,000
$155,000,000

Required:
Part a. For each of the itineraries, calculate the present values of the cash flows using required rates of return of
both
12%
and
16%
Assume a
15
-year time horizon. Should the
company purchase the ship with either or both required rates of return?
Present value of ship in Caribbean/Alaska itinerary at 12%

Formula

Present value of ship in Caribbean/Eastern Canada itinerary at 12%

Formula

Present value of ship in Caribbean/Alaska itinerary at 16%

Formula

Present value of ship in Caribbean/Eastern Canada itinerary at 16%

Formula

Narrative answer:
Enter text answer here.

Part b. The president is uncertain whether a 12 percent or a 16 percent required return is appropriate. Explain why,
in the present circumstance, spending a great deal of time to determine the correct required return may not be
Narrative answer:
Enter text answer here.

Part c. Focusing on a 12 percent required rate of return, what would be the opportunity cost to the company of using
the ship in the Caribbean/Eastern Canada itinerary rather than a Caribbean/Alaska itinerary?
Narrative answer:
Enter text answer here.

The tables contained within the textbook are significant to 4 places while Excel is significant to 15 digits. In
calculations with larger values, different interest rates or longer periods there may be an immaterial difference
between the textbook table's results and Excel's calculated values. The difference should always be investigated to
insure correct formula selection and data entry.

PROBLEM 9-5. Net Present Value and Taxes
Associated Penguin Productions is evaluating a film project. The president of Associated
Penguin estimates that the film will cost $20,000,000 to produce. In its first year, the film
is expected to generate $16,500,000 in net revenue, after which the film will be released to
video. Video is expected to generate $10,000,000 in net revenue in its first year, $2,500,000
in its second year, and $1,000,000 in its third year. For tax purposes, amortization of the
cost of the film will be $12,000,000 in year 1 and $8,000,000 in year 2. The company's
tax rate is 35 percent, and the company requires a 12 percent rate of return on its films.
Required
What is the net present value of the film project? To simplify, assume that all outlays
to produce the film occur at time 0. Should the company produce the film?

Problem P9-6 Internal Rate of Return and Taxes
The Boston Culinary Institute is evaluating a classroom remodeling project. The cost of the remodel
will be
$350,000
and will be depreciated over
6
years using the straight-line
method. The remodeled room will accommodate
5
extra students per year. Each
student pays annual tuition of
$22,000 The before-tax incremental cost of a student (e.g., the cost
of food prepared and consumed by a student) is
$2,000
per year. The company’s tax rate
is
40%
and the company requires a
12%
rate of return on the remodeling
project.
Required:
Assuming a
6
-year time horizon, what is the internal rate of return of the remodeling
project? Should the company invest in the remodel?
Cash flow per year:
Revenue
Less costs other than depreciation
Depreciation
Title
Title
Net income
Title
Cash flow

Formula
Formula
Formula
Formula
Formula
Formula
Amount
Formula

Annuity factor equals cost divided by annual cash flow:

Formula

For Excel to determine the internal interest rate you must provide a matrix of cash flows as follows:
Amount Negative values indicates cash flows out.
Cash out:
Amount Positive values indicates cash flows in.
Cash in year 1:
Amount
Cash in year 2:
Amount
Cash in year 3:
Amount
Cash in year 4:
Amount
Cash in year 5:
Excel internal rate of return (IRR) formula:

Formula

Narrative answer:
Enter text answer here.

The tables contained within the textbook are significant to 4 places while Excel is significant to 15 digits.
In calculations with larger values, different interest rates or longer periods there may be an immaterial
difference between the textbook table's results and Excel's calculated values. The difference should
always be investigated to insure correct formula selection and data entry.

PROBLEM 9-12. Comprehensive Capital Budgeting Problem
Van Doren Corporation is considering producing a new product, Autodial. Marketing data
indicate that the company will be able to sell 45,000 units per year at $30. The product
will be produced in a section of an existing factory that is cun-ently not in use.
To produce Autodial, Van Doren must buy a machine that costs $500,000. The
machine has an expected life of five years and will have an ending residual value of
$15,000. Van Doren will depreciate the machine over six years using the straight-line
method for both tax and financial reporting purposes.
In addition to the cost of the machine, the company will incur incremental manufacturing
costs of $370,000 for component parts, $425,000 for direct labor, and
$200,000 of miscellaneous costs. Also, the company plans to spend $150,000 annually
for advertising Autodial. Van Doren has a tax rate of 40 percent, and the company's required
rate of return is 15 percent.
Required
a. Compute the net present value.
b. Compute the payback period.
c. Compute the accounting rate of return.
d. Should Van Doren make the investment required to produce Autodial?

PROBLEM 10-1. Master Budget
(Note: This problem is similar to the chapter review problem- only the numbers have been changed.
Students who get "stuck" should consult the solution to the review problem.)
The results of operations for the Preston Manufacturing Company for the fourth
quarter of 2014 were as follows (in thousands):
Sales
Less variable cost of sales
Contribution margin
Less fixed production costs
Less fixed selling and administrative expenses
Income before taxes
Less taxes on income
Net income

$550,000
330,000
220,000
$120,000
55,000

175,000
45,000
18,000
$ 27,000

Note: Preston Manufacturing uses the variable costing method. Thus, only variable
production costs are included in inventory and cost of goods sold. Fixed production
costs are charged to expense in the. period incurred.
The company's balance sheet as of the end of the fourth quarter of 2014 was as
follows (in thousands):
Assets:
Cash
Accounts receivable
Inventory
Total current assets
Property, plant, and equipment
Less accumulated depreciation
Total assets
Liabilities and owners' equity:
Accounts payable
Common stock
Retained earnings
Total liabilities and owners' equity

$160,000
220,000
385,000
765,000
440,000
110,000
1,095,000

$56,000
550,000
489,000
$1,095,000

Additional information:
1. Sales and variable costs of sales are expected to increase by 12 percent in the next
quarter.
2. All sales are on credit with 60 percent collected in the quarter of sale and 40 percent
collected in the following quarter.
3. Variable cost of sales consists of 40 percent materials, 40 percent direct labor,
and 20 percent variable overhead. Materials are purchased on credit, and 50 percent
are paid for in the quarter of purchase and the remaining amount is paid for
in the quarter after purchase. The inventory balance is not expected to change.
Also, direct labor and variable overhead are paid in the quarter. the expenses are
incurred.
4. Fixed production costs (other than $9,000 ofdepreciation) are. expected to increase
by 3 percent. Fixed production costs requiring payment are paid in the quarter
they are incurred.
5. Fixed selling and administrative costs (other than $7,000 of depreciation expense)
are expected to increase by two percent. Fixed selling and administrative costs requiring
payment are paid in the quarter they are incurred.
6. The tax rate is expected to be 40 percent. All taxes are paid in the quarter they are
incurred.
7. No purchases of property, plant, or equipment are expected in the first quarter of 2015.
Required
a. Prepare a budgeted income statementfor the first quarter of 2015.
b. Prepare a budgeted statement of cash receipts and disbursements for the first quarter
of 2015.
c. Prepare a budgeted balance sheet as ofthe end ofthe first quarter of 2015.

PROBLEM 10-11. Cash Budget
In the fourth quarter of 2015, Eurofit Cycling, a bike shop, had the following net income:
Sales
Less cost of sales
Gross margin
Selling and administration
Income before taxes
Income taxes
Net income

$300,000
120,000
180,000
57,000
123,000
43,050
$ 79,950

Purchases in the fourth quarter amounted to $155,000.
Estimated data for Eurofit Cycling for 2009 are as follows:

Taxes are 35 percent of pretax income. Fifty percent of sales are collected in the quarter
of sale and 50 percent in the next quarter. Seventy percent of purchases are paid in
the quarter of purchase and 30 percent in the next quarter. Selling and administrative
expenses are paid in the quarter incurred except for $7,000 of depreciation included in
selling and administrative expense. A capital expenditure for $20,000 is planned for
the fourth quarter of 2015.
Required
Prepare a cash receipts and disbursements budget for each quarter of 2015.

PROBLEM 11-9. Comprehensive Variance Problem
Bowser Products operates a small plant in New Mexico that produces dog food in
batches of 1,500 pounds. The product sells for $6 per pound. Standard costs for 2015 are:
Standard direct labor cost = $15 per hour
Standard direct labor hours per batch = 10 hours
Standard cost of material A = $0.35 per pound
Standard pounds of material Aper batch = 800 pounds·
Standard cost of material B = $0.55 per pound
Standard pounds of material B per batch = 250 pounds
Fixed overhead cost per batch = $500
At the start of 2015, the company estimated monthly production and sales of 50
batches. The company estimated that all overhead costs were fixed and amounted to
$25,000 per month. During the month of June, 2015 (typically a somewhat slow
month) 42 batches were produced (not an unusual level of production for this month).
The following costs were incurred:
Direct labor costs were $7,800 for 460 hours
37,500 pounds of material Acosting 8,500 were purchased and used
12,000 pounds of material B costing $5,600 were purchased and used
Fixed overhead of $23,000 was incurred
Required
a. Calculate variances for material, labor, and overhead.
b. Prepare a sum~ary of the variances. Does the unfavorable overhead volume variance
suggest that overhead costs are out of control?