Question

Mester Corporation has provided the following information concerning a capital budgeting project:

After-tax discount rate		14	%
Tax rate		30	%
Expected life of the project		4
Investment required in equipment	$	120,000
Salvage value of equipment	$	0
Annual sales	$	230,000
Annual cash operating expenses	$	150,000
One-time renovation expense in year 3	$	25,000

Click here to view Exhibit 13B-1 to determine the appropriate discount factor(s) using tables.

The company uses straight-line depreciation on all equipment. Assume cash flows occur at the end of the year except for the initial investments. The company takes income taxes into account in its capital budgeting.

The net present value of the project is closest to: (Round intermediate calculations and final answer to the nearest dollar amount.)

Garrison 16e updates 05-17-2018, 06-15-2018

Multiple Choice

• $57,533

• $177,533

• $122,500

• $53,260

Answer 1

NPV = present value of cash flows-initial investment

discount rate = 14%

we will find after tax cash flow

depreciation = cost-salvage/ number of years

=$120,000/4

=$30,000

depreciation is non cash expense. however it saves tax. so it is taken into account

sales	$230,000
less: variable cost	$150,000
less: depreciation	$30,000
Income before tax	$50,000[230,000-150,000-30,000]
Tax	$15,000[50,000*30%]
Add: nom cash expense depreciation	$30,000
Cash flow	$65,000[$50,000-$15,000+$30,000]

Year	Cashflow	PVfactor at 14%	Present value of cash flow
0	($120,000)	1	($120,000)
1-4	$65,000	2.914	$189,410
3	$17,500	0.675	($11,813)
		NPV	$57,597

year 3 after tax expense = ($25,000)*70%

=$17,500

As there is uniform cash flow for 4 years , we will use annuity

Answer is closest to A)$57,533

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