A $20,000 investment in machinery is under consideration. The project is ex- pec

Question

A $20,000 investment in machinery is under consideration. The project is ex- pected to have a life of 6 years and no salvage value. The estimated annual in come from the project is $10,000 with annual operating expenses of $4,000 The investment will be depreciated by the MACRS (GDS) straight-line method ased on a 5-year recovery period. If a 40% income tax rate is applied with a MARR of 5%, compute the present worth on the proposed investment's after- tax cash flow under the following financial policies: a. The investment is provided from the firm's retained earnings. The initial investment is borrowed at 10% with repayment of interest at the end of each period and repayment of the loan principal at the end of 5 year:s Repeat parts (a) and (b) for a MARR of 9% c.

Explanation / Answer

a. Years 0 1 2 3 4 5 6 Total Initial investment -20000 Annual income 10000 10000 10000 10000 10000 10000 Annual operating expenses -4000 -4000 -4000 -4000 -4000 -4000 MACRS Depreciation -2000 -4000 -4000 -4000 -4000 -2000 (20000*10%) (20000*20%) (20000*20%) (20000*20%) (20000*20%) (20000*10%) Net income before tax 4000 2000 2000 2000 2000 4000 Less:Tax @ 40% 1600 800 800 800 800 1600 Net income 2400 1200 1200 1200 1200 2400 add:MACRS Depreciation 2000 4000 4000 4000 4000 2000 Net cashflow -20000 4400 5200 5200 5200 5200 4400 Present value @ 5% 1 0.952380952 0.907029478 0.863837599 0.822702475 0.783526166 0.746215397 Present woth -20000 4190 4717 4492 4278 4074 3283 Net present worth 5035 b. Years 0 1 2 3 4 5 6 Total Receipt of loan 20000 Initial investment -20000 Annual income 10000 10000 10000 10000 10000 10000 Annual operating expenses -4000 -4000 -4000 -4000 -4000 -4000 MACRS Depreciation -2000 -4000 -4000 -4000 -4000 -2000 (20000*10%) (20000*20%) (20000*20%) (20000*20%) (20000*20%) (20000*10%) Interest on loan -2000 -2000 -2000 -2000 -2000 -2000 (20000*10%) (20000*10%) (20000*10%) (20000*10%) (20000*10%) (20000*10%) Net income before tax 2000 0 0 0 0 2000 Less:Tax @ 40% 800 0 0 0 0 800 Net income 1200 0 0 0 0 1200 add:MACRS Depreciation 2000 4000 4000 4000 4000 2000 cashflow 0 3200 4000 4000 4000 4000 3200 Repayment of loan -20000 Net cashflow 3200 4000 4000 4000 -16000 3200 Present value @ 5% 1 0.952380952 0.907029478 0.863837599 0.822702475 0.783526166 0.746215397 Present woth 0 3048 3628 3455 3291 -12536 2388 Net present worth 3273 c. When MARR=9% Years 0 1 2 3 4 5 6 Total Initial investment -20000 Annual income 10000 10000 10000 10000 10000 10000 Annual operating expenses -4000 -4000 -4000 -4000 -4000 -4000 MACRS Depreciation -2000 -4000 -4000 -4000 -4000 -2000 (20000*10%) (20000*20%) (20000*20%) (20000*20%) (20000*20%) (20000*10%) Net income before tax 4000 2000 2000 2000 2000 4000 Less:Tax @ 40% 1600 800 800 800 800 1600 Net income 2400 1200 1200 1200 1200 2400 add:MACRS Depreciation 2000 4000 4000 4000 4000 2000 Net cashflow -20000 4400 5200 5200 5200 5200 4400 Present value @ 9% 1 0.917431193 0.841679993 0.77218348 0.708425211 0.649931386 0.596267327 Present woth -20000 4037 4377 4015 3684 3380 2624 Net present worth 2116 Years 0 1 2 3 4 5 6 Total Receipt of loan 20000 Initial investment -20000 Annual income 10000 10000 10000 10000 10000 10000 Annual operating expenses -4000 -4000 -4000 -4000 -4000 -4000 MACRS Depreciation -2000 -4000 -4000 -4000 -4000 -2000 (20000*10%) (20000*20%) (20000*20%) (20000*20%) (20000*20%) (20000*10%) Interest on loan -2000 -2000 -2000 -2000 -2000 -2000 (20000*10%) (20000*10%) (20000*10%) (20000*10%) (20000*10%) (20000*10%) Net income before tax 2000 0 0 0 0 2000 Less:Tax @ 40% 800 0 0 0 0 800 Net income 1200 0 0 0 0 1200 add:MACRS Depreciation 2000 4000 4000 4000 4000 2000 cashflow 0 3200 4000 4000 4000 4000 3200 Repayment of loan -20000 Net cashflow 3200 4000 4000 4000 -16000 3200 Present value @ 9% 1 0.917431193 0.841679993 0.77218348 0.708425211 0.649931386 0.596267327 Present woth 0 2936 3367 3089 2834 -10399 1908 Net present worth 3734

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