Your firm is contemplating the purchase of a new $798,000 computer-based order e

Question

Your firm is contemplating the purchase of a new $798,000 computer-based order entry system. The system will be depreciated straight-line to zero over its seven-year life. It will be worth $59,000 at the end of that time. You will save $179,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $54,000 at the beginning of the project. Working capital will revert back to normal at the end of the project. Required: If the tax rate is 30 percent, what is the net annual cash flow?

Explanation / Answer

Step 1: Annual Depreciation = 798000/7 = 114000 EBIT =179000 - 114000 = 65000 = 65000 *(.30) = 19500 would be the amount of Annual Tax OCF would be calculated with as follows: 65000 + 114000 - 19500 = 159500 Step 2: IRR = You will have to use NPV formula and keep it at to 0 to calculate the IRR. You can either use trial or error method or calculate IRR with the use of IRR formula in Excel. (I have used Excel) 0 = -798000 + 54000 + 159500/(1+r)^1 + 159500/(1+r)^2 + 159500/(1+r)^3 + 159500/(1+r)^4 +159500/(1+r)^5 + 159500/(1+r)^6 + 159500/(1+r)^7 + 59000*(1-.30)/(1+r)^7 -54000/(1+r)^7 = 11% IRR would therefore be 11%

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.