Question

St. Johns River Shipyards' welding machine is 15 years old, fully depreciated, and has no salvage value. However, even though it is old, it is still functional as originally designed and can be used for quite a while longer. The new welder will cost $80,000 and have an estimated life of 8 years with no salvage value. The new welder will be much more efficient, however, and this enhanced efficiency will increase earnings before depreciation from $29,000 to $58,000 per year. The new machine will be depreciated over its 5-year MACRS recovery period, so the applicable depreciation rates are 20.00%, 32.00%, 19.20%, 11.52%, 11.52%, and 5.76%. The applicable corporate tax rate is 40%, and the project cost of capital is 10%. Should the old welder be replaced by the new one?

What is the NPV of the project? Do not round intermediate calculations. Round your answer to the nearest cent.

Answer 1

Time line		0	1	2	3	4	5	6	7	8
Cost of new machine		-80000
=Initial Investment outlay		-80000
5 years MACR rate			20.00%	32.00%	19.20%	11.52%	11.52%	5.76%	0.00%	0.00%
Profits			29000	29000	29000	29000	29000	29000	29000	29000
-Depreciation	=Cost of machine*MACR%		-16000	-25600	-15360	-9216	-9216	-4608	0	0
=Pretax cash flows			13000	3400	13640	19784	19784	24392	29000	29000
-taxes	=(Pretax cash flows)*(1-tax)		7800	2040	8184	11870.4	11870.4	14635.2	17400	17400
+Depreciation			16000	25600	15360	9216	9216	4608	0	0
=after tax operating cash flow			23800	27640	23544	21086.4	21086.4	19243.2	17400	17400
+Tax shield on salvage book value	=Salvage value * tax rate									0
=Terminal year after tax cash flows										0
Total Cash flow for the period		-80000	23800	27640	23544	21086.4	21086.4	19243.2	17400	17400
Discount factor=	(1+discount rate)^corresponding period	1	1.1	1.21	1.331	1.4641	1.61051	1.771561	1.9487171	2.1435888
Discounted CF=	Cashflow/discount factor	-80000	21636.36364	22842.975	17688.956	14402.295	13092.995	10862.285	8928.951257	8117.2284
NPV=	Sum of discounted CF=	37572.05

Replace welder as incremental NPV is positive