Lasting Impressions Company – CASE STUDY

Lasting Impressions Company is a medium sized commercial printer of promotional advertising brochures,
booklets, and other direct mail pieces. The firm’s major clients are ad agencies based in NY & Chicago.
The typical job is characterized by high quality and production runs of more than 50,000 units. LI has not
been able to compete effectively with larger printers because of its existing older, inefficient presses. The
firm is currently having problems cost effectively meeting run length requirements as well as meeting
quality standards.

The general manager has proposed the purchase of one of two large, six color presses designed for long,
high quality runs. The purchase of a new press would enable them to reduce its cost of labor and therefore
the price to the client, putting the firm in a more competitive position. The key financial characteristics of
the old press and of the two proposed presses are summarized in what follows.

Old Press Originally purchased three years ago at an installed cost of $ 400,000, it is being depreciated
under MACRS using a 5 year recovery period. The old press has a remaining economic life of 5 years. It
can be sold today to net $ 420,000 before taxes; if it is retained, it can be sold to net $ 150,000 before taxes
at the end of year 5.

Press A This highly automated press can be purchased for $ 830,000 and will require $ 40,000 in
installation costs. It will be depreciated under MACRS using a 5 year recovery period. At the end of the 5
years, the machine could be sold to net $ 400,000 before taxes. If this machine is acquired, it is anticipated
that the following current account changes would result:

Cash +25,400
Accounts Receivable +120,000
Inventories -20,000
Accounts Payable +35,000

Press B This press is not as sophisticated as press A. It costs $ 640,000 and requires
$ 20,000 in installation costs. It will be depreciated under MACRS using a 5 year recovery period. At the
end of five years, it can be sold to net $ 330,000 before taxes. Acquisition of this press will have no effect
on the firm’s net working capital investment.

The firm estimates that its earnings before depreciation, interest & taxes with the old press and with press A
or press B for each of the 5 years would be as shown in the following table. The firm is subject to a 40%
tax rate. The firm’s cost of capital, applicable to the proposed replacement is 14%.
Year Old Press Press A Press B
1 120,000 250,000 210,000
2 120,000 270,000 210,000
3 120,000 300,000 210,000
4 120,000 330,000 210,000
5 120,000 370,000 210,000
 To do:

a. For each of the two proposed replacement presses, determine:

1) Initial Investment
2) Operating Cash Inflows (be sure to consider the depreciation in year 6)
3) Terminal Cash Flow (note: this is at the end of year 5)

c. Using the data developed, apply each of the following decision techniques:
a. Payback period (Note: for year 5, use only the operating cash inflows---that is, exclude
terminal cash flow—when making this calculation)
b. Net Present Value (NPV)
c. Internal Rate of Return (IRR)
e. Recommend which, if either of the presses the firm should acquire if the firm has
1) unlimited funds
2) capital rationing

Note: b & d have been intentionally omitted!

Lasting Impressions Company is a commercial printer faced with a replacement decision in

which two mutually exclusive projects have been proposed. The data for each press have been
designed to result in conflicting rankings when considering the NPV and IRR decision
techniques. The case tests the students’ understanding of the techniques as well as the qualitative
aspects of risk and return decision-making.

(a) (1) Calculation of initial investment for Lasting Impressions Company:

Press A Press B
Installed cost of new press 
 Cost of new press $ $
 Installation costs
  Total cost-new press $ $
 After-tax proceeds-sale of old asset 
 Proceeds from sale of old press
 Tax on sale of old press*
  Total proceeds-sale of old press ( ) ( )
 Change in net working capital 0
Initial investment $ $

* Sale price $
 Book value
Gain $
 Tax rate (40%)

Book value  $
**
Cash $
Accounts receivable
Inventory ( )
Increase in current assets $
Increase in current liabilities ( )
Increase in net working capital $
(2) Depreciation
Year Cost Rate Depreciation
Press A
1 0.20
2 0.32
3 0.19
4 0.12
5 0.12
6 0.05
$
Press B
1 0.20
2 0.32
3 0.19
4 0.12
5 0.12
6 0.05
$
Existing Press
1 0.12 (Yr. 4)
2 0.12 (Yr. 5)
3 0.05 (Yr. 6)
4
5
6
$
Operating Cash Inflows
Earnings Earning Incre-
Before s Earnings Old mental
Depreciation Depre- Before After Cash Cash Cash
Year and Taxes ciation Taxes Taxes Flow Flow Flow
Existing
Press
1 $120,000
2 120,000
3 120,000
4 120,000
5 120,000
6 0 0 0 0 0
Press A
1 $250,000
2 270,000
3 300,000
4 330,000
5 370,000
6 0
Press B
1 $210,000
2 210,000
3 210,000
4 210,000
5 210,000
6 0
(3) Terminal cash flow
Press A Press B
After-tax proceeds-sale of new press 
Proceeds on sale of new press $400,000 $330,000
*
Tax on sale of new press (142,600) (118,00)
Total proceeds-new press $257,400 $211,2
00
After-tax proceeds-sale of old press

Proceeds on sale of old press (150,000) (150,000)
 Tax on sale of old press **
60,000 60,000
Total proceeds-old press (90,000) (90,000
)
Change in net working capital 90,400 0
Terminal cash flow $257,800 $121,2
00
 * Press A Press B
Sale price $400,000 Sale price $330,000
Less: Book value (Yr. 6) 43,500 Less: Book value (Yr. 6) 33,000
Gain $356,500 Gain $297,000
Tax rate  0.40 Tax rate  0.40
Tax $142,600 Tax $118,800

** Sale price $150,000

Less: Book value (Yr. 6) 0
Gain $150,000
Tax rate  0.40
Tax $ 60,000

Cash Inflows
Year Press A Press B
Initial Investment
1
2
3
4
5*

* 
Year 5 Press A Press B
 
Operating cash flow $191,760 $85,680
 
Terminal cash inflow 257,800 121,200
 
Total $449,560 $206,880

(c) Relevant cash flow

Cumulative Cash Flows
Year Press A Press
B
1 $128,400 $87,600
2 310,560 206,880
3 476,680 303,040
4 644,440 388,720
5 1,094,000 595,600
 (1) Press A:
Payback  _________ years
Press B:
Payback  __________years

(2) Press A
Year Cash Flow PVlF14%,t PV
1
2
3
4
5

Net present value 

Press B
Year Cash Flow PVlF14%,t PV
1
2
3
4
5 ________

Net present value  $

(3) Internal rate of return:

Press A:_____ %
Press B:_____ %

(e) (1) If the firm has unlimited funds, Press_____ is preferred.

(2) If the firm is subject to capital rationing, Press _______ may be preferred.