replacement analysis mississippi river shipyards is considering replacing an 8 year 698263

REPLACEMENT ANALYSIS Mississippi River Shipyards is considering replacing an 8 year old riveting machine with a new one that will increase earnings before depreciation from $27,000 to $54,000 per year. The new machine will cost $82,500, and it will have an estimated life of 8 years and no salvage value. The new machine will be depreciated over its 5 year MACRS recovery period; so the applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. The applicable corporate tax rate is 40%, and the firm’s WACC is 12%. The old machine has been fully depreciated and has no salvage value. Should the old riveting machine be replaced by the new one? Explain your answer.

Q190

PROJECT RISK ANALYSIS The Butler Perkins Company (BPC) must decide between two mutually exclusive projects. Each costs $6,750 and has an expected life of 3 years. Annual project cash flows begin 1 year after the initial investment and are subject to the following probability distributions:

BPC has decided to evaluate the riskier project at 12% and the less risky project at 10%.

a. What is each project’s expected annual cash flow? Project B’s standard deviation (s_B) is $5,798, and its coefficient of variation (CV_B) is 0.76. What are the values of s_A and CV_A?

b. Based on the risk adjusted NPVs, which project should BPC choose?

c. If you knew that Project B’s cash flows were negatively correlated with the firm’s other cash flows whereas Project A’s flows were positively correlated, how might this affect the decision? If Project B’s cash flows were negatively correlated with gross domestic product (GDP) while A’s flows were positively correlated, would that influence your risk assessment? Explain.