Question

Calculating Project NPV Creole Restaurant is considering the purchase of a $33,000 soufflé maker. The soufflé maker has an economic life of six years and will be fully depreciated by the straight-line method. The machine will produce 2,400 soufflés per year, with each costing $2 to make and priced at $7. Assume that the discount rate is 14 percent and the tax rate is 34 percent. Should the company make the purchase?

Answer 1

Companies are required to make various decisions regarding investment in various projects. It is important for company to take accept or reject decision for the project. Net present value is calculated by discounting all future cash flows from the project to the present and subtracting initial investment and all cash outflows. If NPV is positive companies accept the project, otherwise reject. In case of many projects with positive NPVs, company accept the project with highest NPV or Project with investment limited by the company.

CR co. has to purchase machine of $33,000 with economic life of 6 years and fully depreciated by straight line method. Machine will produce 2,400 units per year costing $2 and at the price of $7. Discount rate is 14% and tax rate is 34%.

Initial investment is $33,000.

Annual depreciation can be calculated as:

Annual after-tax revenue is:

Net present value can be calculated as:

Therefore, NPV of project is positive. Company should of the machine.