Cash flows estimation and capital budgeting: You are the head of finance departm
ID: 2801635 • Letter: C
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? the choices are 48,998.95 12,900 41,649.11 10,300 26,678.70
Explanation / Answer
cost of machine
10300
cost of machine
Macrs rate
annual depreciation
installation cost
2600
12900
33.33%
4299.57
increase in working capital
730
12900
44.45%
5734.05
total cash outflow
13630
12900
14.81%
1910.49
Accumulated depreciation
11944.11
annual savings in year 3
Accumulated depreciation
11944.11
book value at the end of year 3
12900-11944.11
955.89
gain on sale of old macchine
1850-955.89
894.11
tax on gain of old machine
894.11*32%
286.1152
net sales proceeds from sale of machine
1563.885
recovery of working capital in Year 3
730
total annual savings in year 3
25455.16+730+1563.885
27749.04
Year
Before tax annual savings
less depreciation
after depreciation before tax savings
after tax savings ==before tax savings*(1-tax rate)
after tax before depreciation savings = after tax savings+depreciaation
0
1
36535
4299.57
32235.43
21920.09
26219.66
2
36535
5734.05
30800.95
20944.65
26678.7
3
36535
1910.49
34624.51
23544.67
25455.16
Year
annual savings
present value of annual savings = annual savings/(1+r)^n r= 13.5%
0
-13630
-13630
1
26219.66
23070.53
2
26678.7
20655.02
3
27749.04
18903.39
net present value =sum of present value of cash flow
48998.95
cost of machine
10300
cost of machine
Macrs rate
annual depreciation
installation cost
2600
12900
33.33%
4299.57
increase in working capital
730
12900
44.45%
5734.05
total cash outflow
13630
12900
14.81%
1910.49
Accumulated depreciation
11944.11
annual savings in year 3
Accumulated depreciation
11944.11
book value at the end of year 3
12900-11944.11
955.89
gain on sale of old macchine
1850-955.89
894.11
tax on gain of old machine
894.11*32%
286.1152
net sales proceeds from sale of machine
1563.885
recovery of working capital in Year 3
730
total annual savings in year 3
25455.16+730+1563.885
27749.04
Year
Before tax annual savings
less depreciation
after depreciation before tax savings
after tax savings ==before tax savings*(1-tax rate)
after tax before depreciation savings = after tax savings+depreciaation
0
1
36535
4299.57
32235.43
21920.09
26219.66
2
36535
5734.05
30800.95
20944.65
26678.7
3
36535
1910.49
34624.51
23544.67
25455.16
Year
annual savings
present value of annual savings = annual savings/(1+r)^n r= 13.5%
0
-13630
-13630
1
26219.66
23070.53
2
26678.7
20655.02
3
27749.04
18903.39
net present value =sum of present value of cash flow
48998.95
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