A company is considering the purchase of a new machine that will enable it to in

Question

A company is considering the purchase of a new machine that will enable it to increase its expected sales. The machine will have a price of $100,000. In addition, the machine must be installed and tested. The costs of installation and testing will amount to $40,000. The machine will be depreciated using 5-years MACRS. (Use MACRS table from class excel exercise)

The equipment will be operated for 6 years. The sales in the first year of operation are expected to be $200,000. Then, sales will grow by 5% per year until the sixth year. The annual operating costs (before depreciation) will consist of fixed operating costs of $25,000 plus variable operating costs equal to 75% of sales.

To support the increased level of production, the inventory of raw materials will have to be increased from $40,000 to $50,000 when the machine is purchased (remember that the relevant cash flow is the incremental). The additional inventory will be carried until the machine is scrapped following the 6 years of operation.

At the end of the 6-year operating life of the project, it is assumed that the equipment will be sold for $60,000.

The tax rate is 40% and the company

Explanation / Answer

1) initial outlay in year 0 = Inditial cost _installation cost = 100000+40000 = $140,000

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