Question

Geary Machine Shop is considering a four-year project to improve its production efficiency. Buying a new machine press for $969,600 is estimated to result in $323,200 in annual pretax cost savings. The press falls in the MACRS five-year class (MACRS Table), and it will have a salvage value at the end of the project of $141,400. The press also requires an initial investment in spare parts inventory of $40,400, along with an additional $6,060 in inventory for each succeeding year of the project.

  

Required :

If the shop's tax rate is 31 percent and its discount rate is 10 percent, what is the NPV for this project? (Do not round your intermediate calculations.)

  
rev: 09_18_2012

$25,110.69

$27,763.83

$-89,420.78

$26,366.23

$23,855.16

Answer 1

Answer is $25,110.69

Initial Investment = $969,600
Useful Life = 4 years

Depreciation Year 1 = 20.00% * $969,600
Depreciation Year 1 = $193,920.00

Depreciation Year 2 = 32.00% * $969,600
Depreciation Year 2 = $310,272.00

Depreciation Year 3 = 19.20% * $969,600
Depreciation Year 3 = $186,163.20

Depreciation Year 4 = 11.52% * $969,600
Depreciation Year 4 = $111,697.92

Book Value at the end of Year 4 = $969,600.00 - $193,920.00 - $310,272.00 - $186,163.20 - $111,697.92
Book Value at the end of Year 4 = $167,546.88

After-tax Salvage Value = Salvage Value - (Salvage Value - Book Value) * tax rate
After-tax Salvage Value = $141,400 - ($141,400 - $167,546.88) * 0.31
After-tax Salvage Value = $149,505.53

Year 0:

Net Cash Flows = Initial Investment + Initial Investment in NWC
Net Cash Flows = -$969,600 - $40,400
Net Cash Flows = -$1,010,000

Year 1:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $323,200 * (1 - 0.31) + 0.31 * $193,920
Operating Cash Flow = $283,123.20

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $283,123.20 - $6,060
Net Cash Flows = $277,063.20

Year 2:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $323,200 * (1 - 0.31) + 0.31 * $310,272
Operating Cash Flow = $319,192.32

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $319,192.32 - $6,060
Net Cash Flows = $313,132.32

Year 3:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $323,200 * (1 - 0.31) + 0.31 * $186,163.20
Operating Cash Flow = $280,718.59

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $280,718.59 - $6,060
Net Cash Flows = $274,658.59

Year 4:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $323,200 * (1 - 0.31) + 0.31 * $111,697.92
Operating Cash Flow = $257,634.36

Net Cash Flows = Operating Cash Flow + NWC recovered + After-tax Salvage Value
Net Cash Flows = $257,634.36 + $58,580 + $149,505.53
Net Cash Flows = $465,719.89

Required Return = 10%

NPV = -$1,010,000 + $277,063.20/1.10 + $313,132.32/1.10^2 + $274,658.59/1.10^3 + $465,719.89/1.10^4
NPV = $25,110.69