Cash flows estimation and capital budgeting: You are the head of finance departm

Question

Cash flows estimation and capital budgeting: You are the head of finance department in XYZ Company. You are considering adding a new machine to your production facility. The new machine’s base price is $10,300.00, and it would cost another $2,600.00 to install it. The machine falls into the MACRS 3-year class (the applicable MACRS depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%), and it would be sold after three years for $1,850.00. The machine would require an increase in net working capital (inventory) of $730.00. The new machine would not change revenues, but it is expected to save the firm $36,535.00 per year in before-tax operating costs, mainly labor. XYZ's marginal tax rate is 32.00%. If the project's cost of capital is 13.65%, what is the NPV of the project?

Explanation / Answer

1 calculation of net present value of the project 1 cost of the machine purchase price + installation costs 10300+2600 12900 2 depreciation years 1 2 3 1 cost of the asset 12900 12900 12900 2 macrs depreciation rate 33.33% 44.45% 14.81% 3 depreciation ( 1 * 2 ) 4300 5734 1910 3 salvage value book value of the at the end of 3 years cost of the asset - total 3 years depreciation 1 total 3 years depreciation 4300+5734+1910 11944 2 book value of the at the end of 3 years 12900-11944 956 3 sale value after 3 years 1850 4 profit on sale ( 3 - 2 ) 894 5 tax at 32 % on profit 286 6 net salvage value ( 3 - 5 ) 1564 years 1 2 3 1 savings per year 36535 36535 36535 2 depreciation 4300 5734 1910 3 profit ( 1 - 2 ) 32235 30801 34625 4 tax 32 % ( 3 * 32 % ) 10315 9856 11080 5 profit after tax ( 3 - 4 ) 21920 20945 23545 6 salvage value 1564 7 net cash flow ( 2 + 5 + 6 ) 26220 26679 27749 8 discount rate at 13.65 % 0.8799 0.7742 0.6812 9 present value cash flows ( 7 * 8 ) 23071 20655 18903 10 total present value 62629 11 initial outlay 13630 12 net present value ( 10 - 11 ) 48999

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