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You must evaluate a proposal to buy a new milling machine. The
base price is $101,000, and shipping and installation costs would
add another $20,000. The machine falls into the MACRS 3-year class,
and it would be sold after 3 years for $60,600. The applicable
depreciation rates are 33%, 45%, 15%, and 7%. The machine would
require a $3,500 increase in net operating working capital
(increased inventory less increased accounts payable). There would
be no effect on revenues, but pretax labor costs would decline by
$60,000 per year. The marginal tax rate is 35%, and the WACC is
10%. Also, the firm spent $4,500 last year investigating the
feasibility of using the machine.
- How should the $4,500 spent last year be handled?
- Only the tax effect of the research expenses should be included
in the analysis.
- Last year's expenditure should be treated as a terminal cash
flow and dealt with at the end of the project's life. Hence, it
should not be included in the initial investment outlay.
- Last year's expenditure is considered an opportunity cost and
does not represent an incremental cash flow. Hence, it should not
be included in the analysis.
- Last year's expenditure is considered a sunk cost and does not
represent an incremental cash flow. Hence, it should not be
included in the analysis.
- The cost of research is an incremental cash flow and should be
included in the analysis.
-Select-(I, II, III, IV, V)
- What is the initial investment outlay for the machine for
capital budgeting purposes, that is, what is the Year 0 project
cash flow? Enter your answer as a positive value. Round your answer
to the nearest cent.
$
- What are the project's annual cash flows during Years 1, 2, and
3? Do not round intermediate calculations. Round your answers to
the nearest cent.
Year 1: $
Year 2: $
Year 3: $
- Should the machine be purchased? (yes, no)
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