Problem 10-14 Project Evaluation [LO1] Your firm is contemplating the purchase o

Question

Problem 10-14 Project Evaluation [LO1]

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. Enter your answer as a percent rounded 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. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Explanation / Answer

Initial Investment = - Purchase + reduction in working capital

Initial Investment = -605000+80000

Initial Investment (PV)= - 525000

Annual Cash Flow = Saving in order processing costs *(1-tax rate) + Annual Deprecaition * tax rate

Annual Cash Flow = 235000*(1-34%) + 605000/5*34%

Annual Cash Flow (PMT) = 196240

Terminal Value (FV) = Posttax salvage value - Working capital raised back

Terminal Value (FV) = 65000*(1-34%) - 80000

Terminal Value (FV) = -37100

IRR = rate(nper,pmt,pv,fv)

IRR = rate(5,196240,-525000,-37100)

IRR = 24.10%

Answer

IRR = 24.10%

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