Question

Johnny’s Lunches is considering purchasing a new, energy-efficient grill. The grill will cost $38,000 and will be depreciated according to the 3-year MACRS schedule. It will be sold for scrap metal after 3 years for $9,500. The grill will have no effect on revenues but will save Johnny’s $19,000 in energy expenses per year. The tax rate is 30%. Use the MACRS depreciation schedule.

a. What are the operating cash flows in each year? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

b. What are the total cash flows in each year? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

c. Assuming the discount rate is 12%, calculate the net present value (NPV) of the cash flow stream. Should the grill be purchased? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Answer 1

	a)	Operating cash flow each year
			Year1	Year2	Year3
	a	Saving in Expenses	19000	19000	19000
	b	Less: Depreciation	12665.4	16891	5627.8
			33.33%	44.45%	14.81%
	c	Net saving For Tax	6334.6	2109	13372.2
	d	Less Tax (30%*c)	1900.38	632.7	4011.66
	e	Net Income After Tax	4434.22	1476.3	9360.54
	f	Add: Depreciation	12665.4	16891	5627.8
	g	Operating Cash Flow	17099.62	18367.3	14988.34
	b)	Total Cash Flow For Each Year
			Year0	Year1	Year2	Year3
		Equipment purchased	-38000
		Operating cash flow		17099.62	18367.3	14988.34
		Scrap metal sold				9500
		Total Cash Flow For Each Year	-38000	17099.62	18367.3	24488.34
	c)	Net Present Value
		Year	Cash Flow	Discounting Factor @12%	Discounted Present Value
		0	-38000	1	-38000
		1	17099.62	0.8929	15267.52
		2	18367.3	0.7972	14642.30
		3	24488.34	0.7118	17430.32
		Net Present Value			9340.13
		Since NPV is a positive company should be purchased equipment.