Chapter 12 Capital Budgeting Decisions Payback Period and NPV: Taxes and Straigh
ID: 2585669 • Letter: C
Question
Chapter 12 Capital Budgeting Decisions Payback Period and NPV: Taxes and Straight-Line Depreciation Assume that United Technologies Corporation is evaluating a proposal to change the company's manual design system to a computer-aided design (CAD) system. The proposed system is expected to save 13,500 design hours per year; an operating cost savings of $55 per hour. The annual cash ex- penditures of operating the CAD system are estimated to be $300,000. The CAD system requires an initial investment of $750,000. The estimated life of this system is five years with no salvage value. The tax rate is 35 percent, and United Technologies uses straight-line depreciation for tax purposes United Technologies has a cost of capital of 14 percent. Required a. Compute the annual after-tax cash flows related to the CAD project. b. Compute each of the following for the project: 6 P12-31. l. Payback period. 2. Net present value.Explanation / Answer
Answer:
1
Annual After tax cash flow for CAD Project =$340,125
Working notes for the answer:
Savings and cash flow
Design hours
13,500
cost per hour
$55
Total savings per year
$742,500
Less: Operating cost
300,000
Gross Savings
442,500
Less: Depreciation ($750,000 / 5)
150000
Net Income before tax
292,500
Tax -35%
$102,375
Net savings after tax
$190,125
Add Depreciation
150000
Total cash flow
$340,125
______________________________________________________
2
Compute each of the following for the project:
Payback period
=750,000/340125
=2.21 years
= Payback period is 2 .210years
__________________________________________
3
Year
cash flow
PV Factor at
the rate 14%
Present Value
A
B
C=A*B
0
-750,000
1
-750000
1
340,125
0.87719
1,37,931.03
2
340,125
0.76947
261715.1431
3
340,125
0.67497
229574.6869
4
340,125
0.59208
201381.3043
5
340,125
0.51937
176650.267
Net Present Value
869,321.40
Savings and cash flow
Design hours
13,500
cost per hour
$55
Total savings per year
$742,500
Less: Operating cost
300,000
Gross Savings
442,500
Less: Depreciation ($750,000 / 5)
150000
Net Income before tax
292,500
Tax -35%
$102,375
Net savings after tax
$190,125
Add Depreciation
150000
Total cash flow
$340,125
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