Corporation ABC is considering a four-year project to improve
its production efficiency. Buying a new machine press for $560,000
is estimated to result in $210,000 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 $80,000. The press also
requires an initial investment in spare parts inventory of $20,000,
along with an additional $3,000 in inventory for each succeeding
year of the project. If the
company’s tax rate is 35 percent and
its discount rate is 9 percent, should the
company buy and
install the machine press? MACRS Rates: 20%, 32%, 19.20%,
11.52%
Check answer please + should the
company buy and
install the machine press?
- Corporation Abc Is Considering A Four Year Project To Improve Its Production Efficiency Buying A New Machine Press For 1 (51.33 KiB) Viewed 10 times
Initial Investment = $560,000 Useful Life = 4 years Depreciation Year 1 = 20.00% * $560,000 = $112,000 Depreciation Year 2 = 32.00% * $560,000 = $179,200 Depreciation Year 3 = 19.20% * $560,000 = $107,520 Depreciation Year 4 = 11.52 % * $560,000 $64,512 Book Value at the end of Year 4 = $560,000 - $112,000 - $179,200 - $107,520 - $64,512 = $96,768 After-tax Salvage Value = Salvage Value - (Salvage Value-Book Value) *Tax Rate After-tax Salvage Value = $80,000 - ($80,000-$96,768)*0.35 = $85,868.80 Year 0: Net Cash Flows = Initial Investment + Initial Investment in NWC Net Cash Flows = $560,000-$20,000 = -$580,000 Year 1: Operating Cash Flow = Pretax Cost Saving*(1-Tax Rate) + Tax Rate*Depreciation Operating Cash Flow = 210,000*(1-0.35) + 0.35*112,000 = $175,700 Net Cash Flows = Operating Cash Flow - Investment in NWC Net Cash Flows = 175,700 - 3,000 = $172,700 Year 2: Operating Cash Flow = Pretax Cost Saving*(1-Tax Rate) + Tax Rate*Depreciation Operating Cash Flow = $210,000*(1-0.35) + 0.35*$179,200 = $199,220 Net Cash Flows = Operating Cash Flow - Investment in NWC Net Cash Flows = $199,220 - $3,000 = $196,220 Year 3: Operating Cash Flow = Pretax Cost Saving*(1-Tax Rate) + Tax Rate* Depreciation Operating Cash Flow = $210,000* (1 -0.35) + 0.35 * $107,520 = $174,132 Net Cash Flows = Operating Cash Flow - Investment in NWC Net Cash Flows = $174,132 $3,000 = $171,132 Year 4: Operating Cash Flow = Pretax Cost Saving*(1-Tax Rate) + Tax Rate*Depreciation Operating Cash Flow = 210,000* (1-0.35) + 0.35*64,512 = $159,079.20 Net Cash Flows = Operating Cash Flow + NWC recovered + After-tax Salvage Value Net Cash Flows = $159,079.20 + $29,000+ $85,868.80 = $273,948 Required Return = 9% NPV = $580,000+ $172,700/1.09 + $196,220/1.09^2 + $171,132/1.09^3 + $273,948/1.09^4 NPV = $69,812 Risk and Return (25 MARKS)