3.Pique Corporation wants to purchase a new machine for $300,000. Management pre

Question

3.Pique Corporation wants to purchase a new machine for $300,000. Management predicts that the machine can produce sales of $200,000 each year for the next 5 years. Expenses are expected to include direct materials, direct labor, and factory overhead (excluding depreciation) totaling $80,000 per year. The firm uses straight-line depreciation with no residual value for all depreciable assets. Pique's combined income tax rate is 40%. Management requires a minimum after-tax rate of return of 10% on all investments.

What is the net present value (NPV) of the investment? (The PV annuity factor for 5 years, 10% is 3.791.) Assume that the cash inflows occur at year-end.

Explanation / Answer

Calculation of NPV Particulars Amount ( $ ) Expected sales per year 200000 Less: Total Expenses expencted 80000 Less: Depreciation 60000 ( 300000 - 0 solvage value / 5 years) (straight line method of depreciation) Net Profit Before tax 60000 Less: Tax @ 40 % 24000 Net profit after tax - A 36000 Add: Depreciation after tax - B 36000 (Depreciation * (1-tax rate) (60000 * (1-0.4) Total Cash Inflow Per Year (A+B) 72000 PV Annuty factor for 5 years , 10% is 3.791 Total Cash Inflow from the project - I 272952                  (72000 * 3.791) Total Initial Cash Out flow - II 300000 NPV ( I - II)         (27,048)

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