Question

You are is considering replacing a five-year-old machine that originally cost $50,000. It was being depreciated using straight-line to an expected salvage value of zero over its original 10-year life and could now be sold for $40,000. The replacement machine would cost $190,000 and have a five-year expected life. It would be depreciated using the MACRS 5-year class life. The actual expected salvage value of this machine after five years is $20,000. The new machine is expected to operate much more efficiently, saving $6,000 per year in energy costs. In addition, it will eliminate one salaried position saving another $54,000 annually. The firm’s marginal tax rate is 35% and the WACC is 7.5%.

a.   Set up an operating cash flow statement, and calculate the payback, discounted payback, NPV, IRR, and MIRR of the replacement project. Should the project be accepted?

Use Excel for this Problem and display cell reference

Answer 1

The final answers are mentioned here. Detailed workings follow after the answers.

Payback period (years)

2.92

Discounted payback period (years)	4.51
NPV	$ 51,696
IRR	19.56%
MIRR	13.86%

Yes, the project should be accepted, as NPV is positive, IRR and MIRR > WACC and payback period is < life of the project

Detailed workings:

I will first show the screenshot of my excel model in "Show formulas" mode so that you can see the formula in all the cells. Just after that I have produced the screenshot of the excel with answers in the cell. This will help you correlate the excel formula with the output.

Cells highlighted in yellow contain the answers.

Formula Mode:

Output Mode