1. Your company is analyzing the possible purchase of new equipment at a cost of $150,000....

1. Your company is analyzing the possible purchase of new equipment at a cost of $150,000. Assume straight-line depreciation and a 3-year depreciable life. It is estimated the equipment would save:$120,000 in Year 1$120,000 in Year 2$120,000 in Year 3$120,000 in Year 4Project operating costs are expected to be $40,000 each year. The firm’s income tax rate is 21 percent, and its required rate of return or cost of capital is 12 percent. Calculate the Net Present Value (NPV) of this project. Should your firm accept or reject the project? Year 4

Expert Solution

Calculation of NPV of the Project
Particulars	0	1	2	3	4
Initial Investment
Cost of Equipment (A)	-150000
Operating Cash Flows
Savings in Costs (B)		120000	120000	120000	120000
Operating Costs (C )		40000	40000	40000	40000
Depreciaiton (D) $150,000 / 3 years		50000	50000	50000
Profit Before Tax (E = B-C-D)		30000	30000	30000	80000
Tax @21% (F = E*21%)		6300	6300	6300	16800
Profit After Tax (G = E-F)		23700	23700	23700	63200
Add back Depreciation (H = D)		50000	50000	50000
Net Operating Cash Flows (I = G+H)		73700	73700	73700	63200
Total Cash Flows (J = A+I)	-150000	73700	73700	73700	63200
Discount rate @12% (K) 1/(1+12%)^n n=0,1,2,3,4	1	0.892857143	0.797193878	0.711780248	0.635518078
Discounted Cash Flows (L = J*K)	-150000	65803.57143	58753.18878	52458.20426	40164.74256
Net Present Value	67179.70702
Therefore, NPV of the Project is $67,179.71
Firm should Accept the project since NPV>0

jeff jeffy answered 2 years ago

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