Question

New-Project Analysis

The Campbell Company is considering adding a robotic paint sprayer to its production line. The sprayer's base price is $940,000, and it would cost another $19,500 to install it. The machine falls into the MACRS 3-year class (the applicable MACRS depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%), and it would be sold after 3 years for $500,000. The machine would require an increase in net working capital (inventory) of $8,000. The sprayer would not change revenues, but it is expected to save the firm $444,000 per year in before-tax operating costs, mainly labor. Campbell's marginal tax rate is 40%.

1. What is the Year 0 net cash flow?
   $
2. 
   
3. 
   
4. What are the net operating cash flows in Years 1, 2, and 3? Do not round intermediate calculations. Round your answers to the nearest dollar.

   Year 1	$
   Year 2	$
   Year 3	$

5. 
   
6. What is the additional Year 3 cash flow (i.e, the after-tax salvage and the return of working capital)? Do not round intermediate calculations. Round your answer to the nearest dollar.
   $
7. 
   
8. 
   
9. If the project's cost of capital is 10 %, what is the NPV of the project? Do not round intermediate calculations. Round your answer to the nearest dollar.
   $
   
   Should the machine be purchased?

Answer 1

a.Initial Investment Outlay = Base Price + Modification cost + Increase in Working Capital
=-940,000-19,500-8,000
(967,500)	since outflow
b.Annual Cash Flows:
	Year 1	2	3
Savings in Cost	444,000	444,000	444,000
Less: Depreciation	319,801	426,498	142,102
Net Savings	124,199	17,502	301,898
Less: Tax @40%	49,679.46	7,000.90	120,759.22
Income after Tax	74,519.19	10,501.35	181,138.83
Add: Depreciation	319,801	426,498	142,102
Operating Cash Flow	394,320.54	436,999.10	323,240.78
Add: After tax salvage value			328,439.58
Recovery of Working capital			8,000
Additional cash flows			336,440
Annual Cash flows	394,320.54	436,999.10	659,680.36
Written down value	71,099
Sale price	500000
Gain on sale	428,901
Tax	171560.42
After tax salvage value	328439.58
c.NPV = Present value of cash inflows – present value of cash outflows
= 394320.54*PVF(10%, 1 year) + 436999.10*PVF(10%, 2 years) + 659680.36*PVF(10%, 3 years) – 967500
i.e. $	247,757.12
Yes, should be purchased (since NPV is positive)