Question

St. Johns River Shipyards is considering the replacement of an 8-year-old riveting machine with a new one that will increase earnings before depreciation from $30,000 to $56,000 per year. The new machine will cost $90,000, and it will have an estimated life of 8 years and no salvage value. The new machine will be depreciated over its 5-year MACRS recovery period; so the applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. The applicable corporate tax rate is 40%, and the firm's WACC is 20%. The old machine has been fully depreciated and has no salvage value. What is the NPV of the project? Negative value, if any, should be indicated by a minus sign. Round your answer to the nearest cent. $   Should the old riveting machine be replaced by the new one? -Select-(Yes, No)

Answer 1

Cost Of new machine	90,000.00	$
Life of project	8	Years
Tax rate	40	%
WACC	20	%
Earnings before depreciation of old machine	30,000.00	$
Earnings before depreciation of new machine	56,000.00	$
Incremental Earnings before depreciation	26,000.00	$

Year	Depreciation rate	Depreciation
1	20%	18,000.00
2	32%	28,800.00
3	19%	17,100.00
4	12%	10,800.00
5	11%	9,900.00
6	6%	5,400.00
Total		90,000.00

Year	1	2	3	4	5	6	7	8	Total Discounted Inflow
Incremental Earnings before depreciation	26,000.00	26,000.00	26,000.00	26,000.00	26,000.00	26,000.00	26,000.00	26,000.00
Depreciation	18,000.00	28,800.00	17,100.00	10,800.00	9,900.00	5,400.00	0	0
Earnings after depreciation	8,000.00	(2,800.00)	8,900.00	15,200.00	16,100.00	20,600.00	26,000.00	26,000.00
Tax 40%	3,200.00	-	3,560.00	6,080.00	6,440.00	8,240.00	10,400.00	10,400.00
Earnings after tax	4,800.00	(2,800.00)	5,340.00	9,120.00	9,660.00	12,360.00	15,600.00	15,600.00
Add: Depreciation	18,000.00	28,800.00	17,100.00	10,800.00	9,900.00	5,400.00	-	-
Cash Inflow	22,800.00	26,000.00	22,440.00	19,920.00	19,560.00	17,760.00	15,600.00	15,600.00
PV factor 20% [1/(1+r)^n]	0.833	0.694	0.579	0.482	0.402	0.335	0.279	0.233
Discounted Inflow= Cash inflow * total PV factor	19,000.00	18,055.56	12,986.11	9,606.48	7,860.73	5,947.79	4,353.67	3,628.06	81,438.40

NPV = Discounted inflow - Initial investment	81438.40 - 90000
=	(8,561.60)
Since NPV is negative, old machine should not be replaced with new one
They shall continue to use the old machine