Question

A proposed cost-saving device has an installed cost of $745,000. The device will be used in a five-year project but is classified as three-year MACRS property for tax purposes. The required initial net working capital investment is $155,000, the marginal tax rate is 25 percent, and the project discount rate is 13 percent. The device has an estimated Year 5 salvage value of $110,000. What level of pretax cost savings do we require for this project to be profitable? MACRS schedule. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

Time line		0	1	2	3	4	5
Cost of new machine		-745000
Initial working capital		-155000
=Initial Investment outlay		-900000
3 years MACR rate			33.33%	44.45%	14.81%	7.41%	0.00%	0.00%
Savings			236452.06	236452.06	236452.06	236452.06	236452.06
-Depreciation	=Cost of machine*MACR%		-248308.5	-331152.5	-110334.5	-55204.5	0	0	=Salvage Value
=Pretax cash flows			-11856.4386	-94700.44	126117.56	181247.56	236452.06
-taxes	=(Pretax cash flows)*(1-tax)		-8892.32896	-71025.33	94588.171	135935.67	177339.05
+Depreciation			248308.5	331152.5	110334.5	55204.5	0
=after tax operating cash flow			239416.17	260127.17	204922.67	191140.17	177339.05
reversal of working capital							155000
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)						82500
+Tax shield on salvage book value	=Salvage value * tax rate						0
=Terminal year after tax cash flows							237500
Total Cash flow for the period		-900000	239416.171	260127.17	204922.67	191140.17	414839.05
Discount factor=	(1+discount rate)^corresponding period	1	1.13	1.2769	1.442897	1.6304736	1.8424352
Discounted CF=	Cashflow/discount factor	-900000	211872.7177	203717.73	142021.69	117229.85	225158.01
NPV=	Sum of discounted CF=	0