Your firm is contemplating the purchase of a new $605,000 computer-based order e

Question

Your firm is contemplating the purchase of a new $605,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $65,000 at the end of that time. You will save $235,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $80,000 (this is a one-time reduction). If the tax rate is 34 percent, what is the IRR for this project? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))

  

Your firm is contemplating the purchase of a new $605,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $65,000 at the end of that time. You will save $235,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $80,000 (this is a one-time reduction). If the tax rate is 34 percent, what is the IRR for this project? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))

Explanation / Answer

At IRR , NPV = 0

525000 = 196240/(1+r) +  196240/(1+r) ^2 +  196240/(1+r) ^3+  196240/(1+r) ^4 +  159140/(1+r) ^5

By trial & run method

IRR = 24.10%

Answer

IRR = 24.10%

Year0 Year 1 Year 2 Year 3 Year 4 Year 5 Equipment cost a -605000 Annual Depreciation b = 605000/5 121000 121000 121000 121000 121000 Depreciation tax shield c = b*tax rate 41140 41140 41140 41140 41140 Salvage Value d 65000 Posttaxsalvage value e = d*(1-34%) 42900 Working capital f 80000 -80000 Annual Saving in order processing cost before tax g 235000 235000 235000 235000 235000 Annual Saving in order processing cost after tax h = g*(1-34%) 155100 155100 155100 155100 155100 Annual Cash Flow i= a+c+e+f+h -525000 196240 196240 196240 196240 159140

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