Net Present Value and Additional Funds Needed

Virus Stopper Inc., a supplier of computer safeguard systems, uses a cost of capital of 12 percent to evaluate average-risk projects, and it adds or subtracts 2 percentage points to evaluate projects of more or less risk. Currently, two mutually exclusive projects are under consideration. Both have a cost of $200,000 and will last 4 years. Project A, a riskier-than-average project, will produce annual end of year cash flows of $71,104. Project B, of less than average risk, will produce cash flows of $146,411 at the end of Years 3 and 4 only. Virus Stopper should accept

1. B with a NPV of $10,001.
2. Both A and B because both have NPVs greater than zero.
3. B with a NPV of $8,042.
4. A with a NPV of $7,177.
5. A with a NPV of $15,968.

Jefferson City Computers has developed a forecasting model to determine the additional funds it needs in the upcoming year.
All else being equal, which of the following factors is likely to increase its additional funds needed (AFN)?

1. A sharp increase in its forecasted sales and the company’s fixed assets are at full capacity.
2. A reduction in its dividend payout ratio.
3. The company reduces its reliance on trade credit that sharply reduces its accounts payable.
4. Statements a and b are correct.
5. Statements a and c are correct.

Brown & Sons recently reported sales of $100 million, and net income equal to $5 million.
The company has $70 million in total assets. Over the next year, the company is forecasting a 20 percent increase in sales.
Since the company is at full capacity, its assets must increase in proportion to sales. The company also estimates that if sales increase 20 percent, spontaneous liabilities will increase by $2 million. If the company’s sales increase, its profit margin will remain at its current level. The company’s dividend payout ratio is 40 percent.
Based on the AFN formula, how much additional capital must the company raise in order to support the 20 percent increase in sales?

1. $2.0 million
2. $6.0 million
3. $8.4 million
4. $9.6 million
5. $14.0 million

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