Question

A project requires an initial investment of $200,000 and expects to produce a cash flow before taxes of $120,000 per year for two years (i.e., cash flows will occur at t = 1 and t = 2). The corporate tax rate is 21 percent. The assets will depreciate using the MACRS 3-year schedule: (t = 1, 33%); (t = 2: 45%); (t = 3: 15%); (t = 4: 7%). The company's tax situation is such that it can use all applicable tax shields. The opportunity cost of capital is 12 percent. Assume that the asset can sell for book value at the end of the project. Calculate the NPV of the project (approximately).

Group of answer choices $5,721 $21,463 $19,315 $22,735

Answer 1

Book Value of asset at the end of 2nd year = $200,000 - $200,000 *(33%+45%) = $44,000

No profit or loss on sale of old machine since sale value equals book value

Calculation of NPV of the Project
Particulars	0	1	2
Initial Investment
Asset Cost (A)	-200000
Operating Cash Flows
Cash Flows before taxes (B)		120000	120000
Depreciation (C ) $200,000 * 33% , 45%)		66000	90000
Profit Before Tax (D = B-C)		54000	30000
Tax @21% (E = D*21%)		11340	6300
Profit After Tax (F = D-E)		42660	23700
Add back Depreciation (G = C)		66000	90000
Net Operating Cash Flows (H = F+G)		108660	113700
Terminal Value
Net Sale Value (I)			44000
Total Cash Flows (J = A+H+I)	-200000	108660	157700
Discount Factor @12% (K) 1/(1+12%)^n n=0,1,2	1	0.892857	0.797194
Discounted Cash Flows (L = J*K)	-200000	97017.86	125717.5
Net Present Value	22735.33
Therefore, NPV of the Project is $22,735