Question

DataPoint Engineering is considering the purchase of a new piece of equipment for $310,000. It has an eight-year midpoint of its asset depreciation range (ADR). It will require an additional initial investment of $130,000 in nondepreciable working capital. $52,000 of this investment will be recovered after the sixth year and will provide additional cash flow for that year. Income before depreciation and taxes for the next six are shown in the following table. Use Table 12–11, Table 12–12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.

Year   Amount
1   $   206,000     
2      174,000     
3      144,000     
4      129,000     
5      102,000     
6      92,000     

The tax rate is 25 percent. The cost of capital must be computed based on the following:

Cost
(aftertax) Weights
Debt Kd      8.30   %      40   %
Preferred stock Kp      12.40         10     
Common equity (retained earnings) Ke      17.00         50     

a. Determine the annual depreciation schedule. (Do not round intermediate calculations. Round your depreciation base and annual depreciation answers to the nearest whole dollar. Round your percentage depreciation answers to 3 decimal places.)

Year Depreciation Percentage Annual

year	Depreciation Base	Percentage Base	Annual Depreciation
1
2
3
4
5
6
			$

b. Determine the annual cash flow for each year. Be sure to include the recovered working capital in Year 6. (Do not round intermediate calculations and round your answers to 2 decimal places.)

Year	Cash Flow
1
2
3
4
5
6

c. Determine the weighted average cost of capital. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)

Weighted average cost to capital = ?? %

d-1. Determine the net present value. (Use the WACC from part c rounded to 2 decimal places as a percent as the cost of capital (e.g., 12.34%). Do not round any other intermediate calculations. Round your answer to 2 decimal places.)
Net Present Value = ??

d-2. Should DataPoint purchase the new equipment?
  

Yes
No

rev: 12_05_2019_QC_CS-192444

Answer 1

(a.) Below is the table showing calculation of Depreciation :

Year	Depreciation Base	Depreciation rate	Depreciation
1	310,000	20%	62000
2	310,000	32%	99200
3	310,000	19.2%	59520
4	310000	11.5%	35650
5	310000	11.5%	35650
6	310000	5.80%	17980

(b.) Determination of Annual Cash Flow for each year :

Annual Cash Flow = [Income before depreciation and taxes * (1 - Tax rate)] + Tax shield on Depreciation

Annual Cash Flow for year 1 = [206000 * (1 - 0.25)] + [62000 * 0.25]

= 154500 + 15500

= 170,000

Annual Cash Flow for year 2 = [174000 * (1 - 0.25)] + [99200 * 0.25]

= 130500 + 24800

= 155300

Annual Cash Flow for year 3 = [144000 * (1 - 0.25)] + [59520 * 0.25]

= 108000 + 14880

= 122880

Annual Cash Flow for year 4 = [129000 * (1 - 0.25)] + [35650 * 0.25]

= 96750 + 8912.5

= 105662.5

Annual Cash Flow for year 5 = [102000 * (1 - 0.25)] + [35650 * 0.25]

= 76500 + 8912.5

= 85412.5

Annual Cash Flow for year 6 = [92000 * (1 - 0.25)] + [17980 * 0.25] + Recovery of Working Capital

= 69000 + 4495 + 52000

= 125495

(c.) Calculation of Weighted Average cost of Capital

WACC = (Cost of After tax Debt * Weight of Debt) + (Cost of Preferred Stock * Weight of Preferred Stock) + ( Cost of Equity * Weight of Equity)

= (8.3% * 0.50) + (12.40% * 0.10) + (17% * 0.50)

= 3.32% + 1.24% + 8.5%

= 13.06%

(d.1) Calculation of Net Present Value

Net Present Value = Present value of cash Inflow - Present value of Cash outflow

Present value of Cash Outflow = Initial Investment + Investment in Non Depreciable Working Capital

= 310000 + 130000

= 440,000

Below is the table showing Net present Value :

Year	Cash Inflow	Present Value Factor @13.06%	Present value of cash inflow
1	170000	0.884486114	150362.6393
2	155300	0.782315685	121493.6259
3	122880	0.69194736	85026.49158
4	105662.5	0.612017831	64667.33408
5	85412.5	0.541321273	46235.60322
6	125495	0.478791149	60085.89523
		Total Present value of cash inflow	527871.5893
		Less : Cash outflow	440000
		Net Present Value	87871.59

(d-2) Yes since NPV is positive.