Question

Walton Machine Shop is considering a three-year project to improve its production efficiency. Buying (plus shipping and installation) a new machine press for $400,000 is estimated to result in $195,000 in annual incremental revenue and $30,000 in annual incremental variable costs. The press falls in the MACRS three-year class (as per the following schedule), and it will have a salvage value at the end of the project of $65,000. The press also requires an initial investment in spare parts inventory of $18,000, along with an additional $3,000 in inventory for each succeeding year of the project. If the shop's tax rate is 35 percent and its discount rate is 9 percent, should the company buy and install the machine press? (Show all the work clearly including NCS, NWC, OCF and the annual cash flows in the Excel file for full or partial credit). Year MACRS Rate 1 33.33% 2 44.45% 3 14.81% 4 7.41%

Answer 1

	Note 1
	Computation of MARC depreciation	1	2	3
	Depreciation rate		33.33%	44.45%	14.81%
	Depreciation amount		133,320	177,800	59,240
	Note 2
	Computation of post tax salvage value
	Sales price of asset =		65,000
	book value =		29,640
	Gain on sales		35,360
	Tax on gain		12,376
	Post tax salvage value=		52,624
	year	0	1	2	3
	Initial investment	(400,000)
	Working capital	(18,000)			18,000
	Operating cash flow
	Contribution (195,000-30,000)	165,000	165,000	165,000
	depreciation		133,320.00	177,800.00	59,240.00
	Profit before tax		31,680.00	(12,800.00)	105,760.00
	Tax @ 35%		11,088.00	(4,480.00)	37,016.00
	Net income		20,592.00	(8,320.00)	68,744.00
	Operating cash flow		153,912.00	169,480.00	127,984.00
	Post tax salvage value
	Note -2				52,624
	Net cash flow	(418,000.00)	153,912.00	169,480.00	198,608.00	-
	PVIF @ 9%	1	0.917431193	0.841679993	0.77218348
	Present value	(418,000.00)	141,203.67	142,647.93	153,361.82	19,213.41
	NPV=	19,213.41