Warmack Machine Shop is considering a four-year project to improve its productio

Question

Warmack Machine Shop is considering a four-year project to improve its production efficiency. Buying a new machine press for $550,000 is estimated to result in $230,000 in annual pretax cost savings. The press falls in the MACRS five-year class, and it will have a salvage value at the end of the project of $93,000. The press also requires an initial investment in spare parts inventory of $28,000, along with an additional $3,300 in inventory for each succeeding year of the project. The shop’s tax rate is 34 percent and its discount rate is 9 percent. MACRS schedule

Explanation / Answer

Solution:

To compute the Net present value :

step 1 : Formulas 0 1 2 3 4 Initial cost -550000 Initial cost spares -28000 Total benefits= cost savings 230000 230000 230000 230000 Depreciation at MACRS 110000 176000 105600 63360 Profits 120000 54000 124400 166640 tax rate 34% 40800 18360 42296 56657.6 Profit after tax 79200 35640 82104 109982.4 Salvage value incremental 93000 Working capital opening -3000 -3000 -3000 -3000 Closing working capital 3000 3000 3000 28000 Cash flow = profit after tax + depreciation + working adjusted -578000 76200 35640 82104 230982.4

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