Your firm is contemplating the purchase of a new $590,000 computer-based order e

Question

Your firm is contemplating the purchase of a new $590,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $62,000 at the end of that time. You will save $220,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $77,000 (this is a one-time reduction). If the tax rate is 34 percent, what is the IRR for this project?

Your firm is contemplating the purchase of a new $590,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $62,000 at the end of that time. You will save $220,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $77,000 (this is a one-time reduction). If the tax rate is 34 percent, what is the IRR for this project?

Explanation / Answer

Cash flows are as follows. CF0 (590,000) + 77,000= (513,000) CF1-5 220,000 *(1-.34) + 590,000/5 * .34= 185,320 CF Terminal 62,000(1-.34) +(77,000)= (36,080) Put these in a financial calculator and you get an IRR of 22.40%

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