Question

Creole Restaurant is considering the purchase of a $33,000 soufflé maker. The soufflé maker has an economic life of six years and will be fully depreciated by the straight-line method. The machine will produce 2,400 soufflés per year, with each costing $2 to make and priced at $7. Assume that the discount rate is 14 percent and the tax rate is 34 percent. Should the company make the purchase?

Answer 1

Statement showing Cash flows
Particulars	Time	PVf 14%	Amount	PV
Cash Outflows	-	1.00	(33,000.00)	(33,000.00)
PV of Cash outflows = PVCO				(33,000.00)
Cash inflows	1.00	0.8772	11,090.00	9,728.07
Cash inflows	2.00	0.7695	11,090.00	8,533.39
Cash inflows	3.00	0.6750	11,090.00	7,485.43
Cash inflows	4.00	0.5921	11,090.00	6,566.17
Cash inflows	5.00	0.5194	11,090.00	5,759.80
Cash inflows	6.00	0.4556	11,090.00	5,052.45
PV of Cash Inflows =PVCI				43,125.32
NPV= PVCI - PVCO				10,125.32
Sale Revenue = 2400*7	16,800.00
Less Purchase cost	(4,800.00)
Less Depreciation = 33000/6	(5,500.00)
Income before tax	6,500.00
Tax at 14%	(910.00)
Income after tax	5,590.00
Add Depreciation	5,500.00
Cash flows after tax	11,090.00
Yes company should make the purchase as NPV is positive