Oregon Forest Products will acquire new equipment that falls under the five-year

Question

Oregon Forest Products will acquire new equipment that falls under the five-year MACRS category. The cost is $420,000. If the equipment is purchased, the following earnings before depreciation and taxes will be generated for the next six years.

Year 1 $ 135,000

Year 2 182,000

Year 3 125,000

Year 4 68,000

Year 5 69,000

Year 6 39,000

The firm is in a 35 percent tax bracket and has a 12 percent cost of capital.

A) Calculate the net present value.

B) Under the net present value method, should Oregon Forest Products purchase the equipment asset? (YES or NO).

Explanation / Answer

Yr 1 YR 2 Yr 3 Yr 4 Yr 5 Yr 6 Earning before Dep and Taxes 135000 182000 125000 68000 69000 39000 Depreciation 84000 134400 80640 48384 48384 24192 Earning before tax 51000 47600 44360 19616 20616 14808 Less: Tax 17850 16660 15526 6865.6 7215.6 5182.8 Earning after tax 33150 30940 28834 12750.4 13400.4 9625.2 Add: Deprecition 84000 134400 80640 48384 48384 24192 Cash flow after tax 117150 165340 109474 61134.4 61784.4 33817.2 PVF @ 12% 0.893 0.797 0.712 0.636 0.567 0.507 Present value 104614.95 131775.98 77945.49 38881.4784 35031.7548 17145.32 Total Present value of Inflows 405394.9716 Present value of outflow 420000 NPV -14605.0284 Since the NPV is negative, hence equipment should not be purchased

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