**P.4** Eldon Engine, Inc., produces engines for the watercraft industry. An outside manufacturer has offered to supply several component parts used in the engine assemblies, which are currently being produced by Eldon. The supplier will charge Eldon $290 per engine for the set of parts. Eldon’s current costs for those part sets are direct materials, $150; direct labor, $70; and manufacturing overhead applied at 100% of direct labor. Variable manufacturing overhead is considered to be 20% of the total, and fixed overhead will not change if the part sets are acquired from the outside supplier.

If Eldon Engine, Inc., accept the offer to purchase the parts, what would be the net advantage or disadvantage per engine of purchasing?

**P.7 *Required Charts 6.4 and 6.5 are at the bottom of the page***

South Bay Manufacturing Ltd. is considering the investment of $86,000 in a new machine. The machine will generate cash flow of $15,000 per year for each year of its eleven-year life and will have a salvage value of $8,000 at the end of its life. The company’s cost of capital is 10%.

** (a)** Using the Table 6-4 and Table 6-5, calculate the net present value of the proposed investment. (Ignore income taxes.) (Round pv factor to 4 decimal places, intermediate calculations and the final answer to the nearest dollar amount. Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

Net present value =

** ****P.9 **Lake Regional Hospital is considering the acquisition of a new diagnostic scanning machine. The investment required to get the machine operational will be $1,897,000. The machine will be capable of performing 8,900 scanning procedures per year, but based on the experience of other hospitals, management estimates that the machine will be used at 80% of its capacity. The hospital’s cost of capital is 10%; the machine has an estimated useful life of eight years and no salvage value. Use the appropriate factors from Table 6-5 to answer the following questions.

**(a)** Assuming a constant cash flow every year, calculate the annual net cash flow required from the scanner if the IRR of the investment is to equal 10%. (Hint: The annual net cash flow requirement is an annuity.) (Round pv factor to 4 decimal places and the final answer to the nearest dollar amount. Omit the “$” sign in your response.)

Annuity required =

(b) If the direct cash costs of operating the scanner equal 46% of the annual net cash flow requirement calculated in part a, what price should the hospital charge per scanning procedure in order to achieve an 10% ROI? (Intermediate calculations and the final answer to the nearest dollar amount. Omit the “$” sign in your response.)

The Delmar Beverage Co. produces a premium root beer that is sold throughout its chain of restaurants in the Midwest. The company is currently producing 1,593 gallons of root beer per day, which represents 70% of its manufacturing capacity. The root beer is available to restaurant customers by the mug, in bottles, or packaged in six-packs to take home. The selling price of a gallon of root beer averages $13, and cost accounting records indicate the following manufacturing costs per gallon of root beer.

Raw materials………………………………………………………………….$1.56

Direct labor…………………………………………………………………………………..1.67

Variable overhead…………………………………………………………………………..1.61

Fixed overhead……………………………………………………………………………….2.03

Total absorption cost………………….……………………………………………………$6.87

In addition to the manufacturing costs just described, Delmar Beverage incurs an average cost of $1.05 per gallon to distribute the root beer to its restaurants. SaveMore, Inc, a chain of grocery stores, is interested in selling the premium root beer in gallon jugs throughout its stores in the St. Louis area during holiday period and has offered to purchase root beer from Delmar Beverage at a price of $10 per gallon. SaveMore believes it could sell 682 gallons per day. If Delmar Beverage agrees to sell root beer to Save More, it estimates the average distribution cost will be $1.52 per gallon

**Requirement 1**:

What would be the total relevant cost per gallon that Delmar Beverage should consider in evaluating the special sales order from SaveMore? (Round your answer to 2 decimal places. Omit the “$” sign in your response.)

Total relevant cost per gallon =

**Requirement 2: **

How would Delmar Beverage’s daily operating income be affected by the acceptance of this offer? (Round your answer to 2 decimal places. Omit the “$” sign in your response.)

Daily increase or decrease in operating income =

**Requirement 3: **

Assume that Delmar Beverage is currently producing 2,275 gallons of root beer daily.

**(a)**What would be the total relevant cost per gallon that Delmar Beverage should consider in evaluating the special sales order from SaveMore? (Round your answer to 2 decimal places. Omit the “$” sign in your response.)

Total relevant cost per gallon =

**(b)** How would Delmar Beverage’s daily operating income be affected by the acceptance of this offer? (Input all amounts as positive value. Round your answer to 2 decimal places. Omit the “$” sign in your response.)

Daily decrease or increase in operating income =

H2

MMV Inc. opened a chain of businesses several years ago that provide quick oil changes and other minor services in conjunction with a convenience operation consisting of a soup, sandwich, and snack bar. The strategy was that as customers brought autos in for oil changes, they would likely use the convenience operation to purchase a sandwich, bowl of soup, beverage, or some other snack while they were waiting for the work to be completed on their autos. The oil change operation occupies 75% of the facility and includes three service bays. The soup, sandwich, and snack bar occupies the remaining 25%. A general manager is responsible for the entire operation, but each segment also has a manager responsible for its individual operation.

Recently the following annual operating information for the soup, sandwich, and snack bar at one of MMV’s locations caught his attention. Sales for the year were $78,000, and cost of sales (food, beverages, and snack items) are 50% of sales revenue. Operating expense information for the convenience operation follows:

Food service items (spoons, napkins, etc.) . . . . . . . . . $1,400

Utilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2,450

Wages for part-time employees . . . . . . . . . . . . . . . . . . 14,000

Convenience operation manager’s salary . . . . . . . . . . . 22,000

General manager’s salary . . . . . . . . . . . . . . . . . . . . . . .5,000

Advertising . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9,000

Insurance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4,000

Property taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1,000

Food equipment depreciation . . . . . . . . . . . . . . . . . . .1,000

Building depreciation . . . . . . . . . . . . . . . . . . . . . . . . . . 5,000

While investigating these operating expenses, MMV Inc., determines the following:

• Utilities are allocated to each segment based on square footage; however, 50% of the amount allocated to the soup, sandwich, and snack bar results from operating the food equipment.

• The general manager’s salary is allocated between the segments based on estimated time spent with each operation. It is determined that 20% of the general manager’s time is spent with the convenience operation.

• Advertising is allocated to each segment equally but could be reduced by $2,100 if MMV decided to advertise only the auto services.

• Insurance is allocated to each segment based on square footage, but only 25% of the amount allocated to the soup, sandwich, and snack bar results directly from its operation.

• Property taxes and building depreciation are allocated to each segment based on square footage.

Required:

a. From the preceding information, calculate the operating income from the soup, sandwich, and snack bar operation that has caught MMV’s attention.

b. Identify whether each of these operating expenses is relevant to the decision of discontinuing the soup, sandwich, and snack bar operation.

c. If MMV Inc., discontinues the soup, sandwich, and snack bar operation, how much will operating income increase or decrease for this location?

H3

TopCap Co. is evaluating the purchase of another sewing machine that will be used to manufacture sport caps. The

invoice price of the machine is $152,000. In addition, delivery and installation costs will total $6,000. The machine has the

capacity to produce 12,000 dozen caps per year. Sales are forecast to increase gradually, and production volumes for

each of the five years of the machine’s life are expected to be:

2010 3,6 00 dozen

2011 5,6 00 dozen

2012 8,500 dozen

2013 11,300 dozen

2014 12,000 dozen

The caps have a contribution margin of $6.00 per dozen. Fixed costs associated with the additional production (other

than depreciation expense) will be negligible. Salvage value and the additional investment in working capital should be

ignored. TopCap Co.’s cost of capital for this capacity expansion has been set at 14%.

**(a)** Use Table 6-4 to calculate the net present value of the proposed investment in the new sewing machine. (Round pv factor to 4 decimal places and the final answer to the nearest dollar amount. Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

Net present value $

**(b)** Calculate the present value ratio of the investment. (Round your answer to 3 decimal places.)

Present value ratio

**(c)** What is the internal rate of return of this investment, relative to the cost of capital? (Omit the “%” sign in your response.)

The internal rate of return of this investment is greater than, lesser than, or equal to the cost of capital of 8%.

**(d)** Calculate the payback period of the investment. (Round your answer to 3 decimal places.)

Pay back period __________ years

Calculate NPV—rank projects using present value ratios The following capital expenditure projects have been proposed for management’s consideration at Heard, Inc., for the upcoming budget year:

Project

Year(s) A B C D E

Initial investment ………… . . . . .. 0 $(54,000) $(58,000) $(116,000) $(116,000) $(232,000)

Amount of net cash return …. . . .. 1 13,000 0 39,000 11,600 75,000

. . . . . . . . . . . . . . . ………………… 2 13,000 0 39,000 23,200 75,000

. . . . . . . . . . . . . . ……………….. . 3 13,000 26,000 39,000 34,800 41,000

. . . . . . . . . . . . . . . ……………….. 4 13,000 26,000 39,000 46,400 41,000

. . . . . . . . . . . . . . . ……………….. 5 13,000 26,000 39,000 58,0 00 41,000

Per year . . . . . . . . . . . . . . . . ….. 6-10 13,000 13,900 0 0 41,000

NPV (1 4% discount rate) . . . . . $4423 $ ? ? ? 8792

Present value ratio . . . . . . . 1.08

- Using Table 6-4 and Table 6-5, calculate the net present value of projects B, C, and D, using 18% as the cost of capital for Heard, Inc. (Round pv factor to 4 decimal places and the final answers to the nearest dollar amount. Negative amounts should be indicated by a minus sign. Omit the “$” sign in your response.)

- Using Table 6-4 and Table 6-5, calculate the present value ratio for projects B, C, D, and E. (Round your answers to 2 decimal places.)

Project Present value ratio

- Which projects would you recommend for investment if the cost of capital is 18% and

**(a)** $120,000 is available for investment?

**8. **

**(b)** $353,000 is available for investment? (Select all that apply.)

**(c)** $586,000 is available for investment? (Select all that apply.)

Crichton Publications uses the accounting rate of return method to evaluate proposed capital investments. The company’s desired rate of return (its cost of capital) is 18%. The project being evaluated involves a new product that will have a 3 year life. The investment required is $100,000, which consists of a $75,000 machine, and inventories and accounts receivable totaling $25,000. The machine will have a useful life of 3 years and a salvage value of $53,000. The salvage value will be received during the fourth year, and the inventories and accounts receivable related to the product also will be converted back to cash in the fourth year. Accrual accounting net income from the product will be $29,000 per year, before depreciation expense, for each of the three years. Because of the time lag between selling the product and collecting the accounts receivable, cash flows from the product will be:

1st year $ 13,500

2nd year 23,500

3rd year 29,500

4th year 20,000

____________

**Requirement 1: **

**(a)** Calculate the accounting rate of return for the first year of the product. Assume straight-line depreciation. (Round your answer to the nearest whole percentage. Omit the “%” sign in your response.)

Accounting rate of return =

**Requirement 2: **

**(a)** Using Table 6-4, calculate the net present value of the product using a cost of capital of 18% and assuming that cash flows occur at the end of the respective years. (Round pv factor to 4 decimal places, do not round intermediate calculations and round the final answer to the nearest dollar amount. Negative amount should be indicated by a minus sign. Omit the “$” sign in your response.)

Net present value =

**H.11 **Busy Beaver Corp. is interested in reviewing its method of evaluating capital expenditure proposals using the accounting rate of return method. A recent proposal involved a $110,000 investment in a machine that had an estimated useful life of five years and an estimated salvage value of $23,000. The machine was expected to increase net income (and cash flows) before depreciation expense by $28,000 per year. The criteria for approving a new investment are that it have a rate of return of 10% and a payback period of three years or less.

**Requirement 1: **

**(a)** Calculate the accounting rate of return on this investment for the first year. Assume straight-line depreciation. (Round your answer to 1 decimal place. Omit the “%” sign in your response.)

Accounting rate of return __________ %

**Requirement 2: **

**(a)** Calculate the payback period for this investment. (Round your answer to 2 decimal places.)

Payback period ____________ years

**Requirement 3: **

**(a)** Using Table 6-4, calculate the net present value of this investment using a cost of capital of 10%. (Round pv factor to 4 decimal places, intermediate calculations and the final answer to the nearest dollar amount. Negative amounts should be indicated by a minus sign. Omit the “$” sign in your response.)

Net present value =

**E.2 **Braizen, Inc. produces a product with a $30 per-unit variable cost and an $80 per-unit sales price. Fixed manufacturing overhead costs are $100,000. The firm has a one-time opportunity to sell an additional 1,000 units at $60 each that would not affect its current sales. Assuming the company has sufficient capacity to produce the additional units, how would the acceptance of the special order affect net income?

Income would decrease by $30,000.

Income would increase by $30,000.

Income would increase by $140,000.

Income would increase by $40,000.

**E.10 **Greenland Sports, Inc. has been asked to submit a bid to the National Hockey League on supplying 1,000 pairs of professional quality skates. The cost per pair of skates has been determined as follows:

Other non-manufacturing costs associated with each pair of skates are:

Assume the commission on the sale of skates to the National Hockey League would be reduced to $15 per pair and that available production capacity exists to produce the 1,000 pairs of skates. The lowest price the firm can bid is some price greater than:

$185.

$190.

$215.

$225.

**E. 13 **Product Z sells for $18 per unit as is but if it is enhanced it can be sold for $24 per unit. The enhancement process will cost $50,000 for 10,000 units. If the 10,000 units of Product Z are sold as is without further processing, the company:

will incur an incremental profit of $10,000.

will incur an opportunity cost of $10,000.

will incur an incremental profit of $1 per unit.

will incur an incremental loss of $6 per unit**.**

**E.14 **Product X sells for $80 per unit in the marketplace and ABC Company requires a 35% minimum profit margin on all product lines. In order to compete in this market, the target cost for Product X must be equal to or lower than:

$28

$45

$52

$80

**E.17** XYZ Company produces three products: A, B, and C. Product A has a contribution margin of $20 and requires 1 hour of machine time. Product B has a contribution margin of $30 and requires 2 hours of machine time. Product C has a contribution margin of $36 and requires 1.5 hours of machine time. If machine hours are considered scarce, in what product mix order should XYZ Company schedule the production of Products A, B, and C for the available machine hours?

First A, then B, then C.

First C, then A, then B.

First C, then B, then A.

First B, then C, then A.

**E.24** Discounting a future cash inflow at an 8% discount rate will result in a higher present value than discounting it at a:

7% rate.

8% rate.

9% rate.

all of the above

**E.26** If the net present value of the investment is $8,510, then:

the rate of return is less than the cost of capital.

the present value of the cash flows are more than the investment.

the cost of capital is higher than the internal rate of return.

the present value of the cash flows is $8,510 less than the investment.

**E.31** If an asset costs $16,000, has an expected useful life of 8 years, is expected to have a $2,000 salvage value and generates net annual cash inflows of $2,000 a year, the cash payback period is

8 years.

7 years.

6 years.

5 years.

**E. 32-33** Boccardi Inc., has invested in new pasta manufacturing equipment at a cost of $48,000. The equipment has an estimated useful life of eight years. Estimated annual sales and operating expenses related to the pasta equipment follow:

**32**. The estimated payback of the investment in the pasta equipment is:

3.0 years.

4.0 years.

6.0 years.

8.0 years.

- The estimated accounting rate of return is:

12.5%.

18.0%.

25.0%.

33.3%.

**E.34** In a capital budgeting decision, if a firm uses the net present value method and a 12% discount rate, what does a negative net present value indicate?

The proposal’s rate of return exceeds 12%.

The proposal’s rate of return is less than the minimum rate required.

The proposal earns a rate of return between 10% and 12%.

None of the above.

Mizzou Mining Company mines an iron ore called Alpha. During the month of December, 419,000 tons of Alpha were mined and processed at a cost of $752,500. As the Alpha ore is mined, it is processed into Delta and Pi, where 60% of the Alpha output becomes Delta and 40% becomes Pi. Each product can be sold as is or processed into the refined products Super Delta and Precision Pi. Selling prices for these products are:

Delta | Super Delta | Pi | Precision Pi | |

Selling price | $23/ton | $25/ton | $21/ton | $25/ton |

Processing costs to refine Delta into Super Delta are $2,514000: processing costs to refine Pi into Precision Pi are $335,200.

** **

**Requirement 1: **

**(a)** What would be the incremental profit or loss per unit if Delta is refined into Super Delta? (Input the amount as positive value. Omit the “$” sign in your response.)

Incremental loss or profit =

** (b)** What would be the incremental profit or loss per unit if Pi is refined into Precision Pi? (Omit the “$” sign in your response.)

Incremental loss or profit =

**Requirement 2**:

**(a)** Should Delta be sold as is or refined into Super Delta?

**(b)** Should Pi be sold as is or refined into Precision Pi?

**Requirement 3: **

Identify any costs in the problem that are not relevant to this decision. (select one that apply)

The $752,000 cost incurred to produce the Alpha ore is not relevant.

Processing costs to refine Delta into Super Delta are not relevant.

Processing costs to refine Pi into Precision Pi are $335,200 not relevant.

**Requirement 4**:

What is the maximum profit that Mizzou Mining Company can expect to earn from the production of the 419,000 tons of Alpha? (Omit the “$” sign in your response.)

Maximum profit

The product mix decision for the ABC Company produces Product X, Product Y, and Product Z. All three products require processing on specialized finishing machines. The capacity of these machines is 2,040 hours per month. ABC Company wishes to determine the product mix that should be achieved to meet the high demand for each product and provide the maximum profit. Following is information about each product:

Product X Product Y Product Z

Selling price $149 $119 $37

Variable cost 102 58 28

Machine time per unit 3 hours 3 hours 1 hours

Monthly demand (units) 410 270 750

Determine how the 2,040 hours of machine time should be allocated to the three products to provide the most profitable product mix.

**E.38 **Busy Beaver Corp. is interested in reviewing its method of evaluating capital expenditure proposals using the accounting rate of return method. A recent proposal involved a $98,000 investment in a machine that had an estimated useful life of five years and an estimated salvage value of $25,000. The machine was expected to increase net income (and cash flows) before depreciation expense by $26,000 per year. The criteria for approving a new investment are that it have a rate of return of 10% and a payback period of three years or less.

**Requirement 1: **

**(a)** Calculate the accounting rate of return on this investment for the first year. Assume straight-line depreciation. (Round your answer to 1 decimal place. Omit the “%” sign in your response.)

Accounting rate of return __________ %

** (b)** Based on this analysis, would the investment be made? Yes or No

** Requirement 2: **

**(a)** Calculate the payback period for this investment. (Round your answer to 2 decimal places.)

Payback period ________ years

**(b)** Based on this analysis, would the investment be made? Yes or No

**Requirement 3: **

**(a)** Using Table 6-4, calculate the net present value of this investment using a cost of capital of 10%. (Round pv factor to 4 decimal places, intermediate calculations and the final answer to the nearest dollar amount. Negative amounts should be indicated by a minus sign. Omit the “$” sign in your response.)

Net present value =

**(b)** Based on this analysis, would the investment be made? Yes or No

**Requirement 4: **

What recommendation would you make to the management of Busy Beaver Corp. about evaluating capital expenditure proposals?

The pay back period approach is the best technique.

The accounting rate of return approach is the best technique.

The net present value analytical approach is the best technique.