Your firm is contemplating the purchase of a new $645,000 computer-based order e

Question

Your firm is contemplating the purchase of a new $645,000 computer-based order entry system. The system will be depreciated straight-line to zero over its six-year life. It will be worth $47,000 at the end of that time. You will be able to reduce working capital by $42,000 at the beginning of the project. Working capital will revert back to normal at the end of the project. Assume the tax rate is 30 percent.

Suppose your required return on the project is 9 percent and your pretax cost savings are $197,000 per year. What is the NPV of the project? (Do not round intermediate calculations. Round your answer to 2 decimal places (e.g., 32.16).)

Suppose your required return on the project is 9 percent and your pretax cost savings are $137,000 per year. What is the NPV of the project? (Do not round intermediate calculations. Negative amount should be indicated by a minus sign. Round your answer to 2 decimal places (e.g., 32.16).)

Your firm is contemplating the purchase of a new $645,000 computer-based order entry system. The system will be depreciated straight-line to zero over its six-year life. It will be worth $47,000 at the end of that time. You will be able to reduce working capital by $42,000 at the beginning of the project. Working capital will revert back to normal at the end of the project. Assume the tax rate is 30 percent.

Explanation / Answer

1) Cash flows are calculated in the following table

Year 0 = 42000 * (1-Tax) - Initial Investment

Year 6 = Scarp value - Working capital + Cost savings

NPV = NPV(9%,G2:G9) = $137,399.99

2)

Cash flows are calculated in the following table

Year 0 = 42000 * (1-Tax) - Initial Investment

Year 6 = Scarp value - Working capital + Cost savings

NPV = NPV(9%,G2:G9) = -$35,451.92

Cash flow Tax Rate After tax Cash Flow Machine Depreciation value Depreciation Tax Shield Total net cash flows Year 0 42000 30% 29400 0 0 -615600 Year 1 197000 30% 137900 107500 32250 170150 Year 2 197000 30% 137900 107500 32250 170150 Year 3 197000 30% 137900 107500 32250 170150 Year 4 197000 30% 137900 107500 32250 170150 Year 5 197000 30% 137900 107500 32250 170150 Year 6 202000 30% 141400 107500 32250 173650

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