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you are considering investing in a project that increases annual costs by $25,000 per year over...

you are considering investing in a project that increases annual costs by $25,000 per year over the project's 5 year life. The project has an initial cost of $500,000 and will be deprciated straight-line over 5 years. Assume a 32% tax bracket and a discount rate of 11%. Suppose the equipment is sold at the end of year 5 for $300,000, pretax. What is the NPV?

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Year 0 1 2 3 4 5
Cost of project $          -5,00,000
Annual cost $      -25,000.00 $      -25,000.00 $      -25,000.00 $     -25,000.00 $     -25,000.00
Depreciation expense $ -1,00,000.00 $ -1,00,000.00 $ -1,00,000.00 $ -1,00,000.00 $ -1,00,000.00
Pretax income $ -1,25,000.00 $ -1,25,000.00 $ -1,25,000.00 $ -1,25,000.00 $ -1,25,000.00
Tax expense $       40,000.00 $       40,000.00 $       40,000.00 $       40,000.00 $       40,000.00
Operating income $      -85,000.00 $      -85,000.00 $      -85,000.00 $     -85,000.00 $     -85,000.00
Depreciation expense $    1,00,000.00 $    1,00,000.00 $    1,00,000.00 $   1,00,000.00 $   1,00,000.00
Operating cash flow $       15,000.00 $       15,000.00 $       15,000.00 $       15,000.00 $       15,000.00
After tax sale of asset $   2,04,000.00
Cash flow $    -5,00,000.00 $       15,000.00 $       15,000.00 $       15,000.00 $       15,000.00 $   2,19,000.00
Discount factor                 1.00000               0.90090               0.81162               0.73119               0.65873               0.59345
Present value $    -5,00,000.00 $       13,513.51 $       12,174.34 $       10,967.87 $         9,880.96 $   1,29,965.84
Net Present value (NPV) $    -3,23,497.47
Working:
Straight line depreciation = (Cost - Salvage Value)/Useful Life
= (500000-0)/5
= $     1,00,000.00
After tax sale of system = Sales -((Sales - Book Value)*Tax Rate) * (1- Tax Rate)
= 300000-((300000-0)*32%)
= $     2,04,000.00
Discount factor of Year:
0 = 1.11^-0 =                  1.0000
1 = 1.11^-1 =                  0.9009

jeff jeffy answered 4 months ago
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