Question
In: Finance
You are evaluating the purchase of equipment for a house painting business. The total cost of...
You are evaluating the purchase of equipment for a house painting business. The total cost of the equipment is $27,000. You paid a consultant $1,000 to estimate the revenues expected from the equipment. The firm selling the equipment charges $600 for shipping.
The project's incremental operating cash flows before taxes will be $12,000 per year for four years. At the end of four years the equipment will have no value and will be scraped. The equipment has a three-year useful life and will be depreciated using the three-year MACRS depreciation schedule (assume these depreciation percentages: Yr 1: 33.3%, Yr 2: 44.5%, Yr 3: 14.8%, and Yr 4: 7.4%). The tax rate is 34% and the firm's required rate of return is 17%.
Calculate the cash flows from Years 0 through 4.
Should you purchase the equipment?
Solutions
Expert Solution
A fee paid as consultation fee is considered as sunk cost and it is not included in capital budgeting analysis.
Total Initial Investment = $$27,000 + $600
= $27,600.
Total Initial Investment is $27,600.
Annual after tax cash flow and NPV of project is calculated in excel and screen shot provided below:
NPV of project is $836.56 and IRR of project is 18.61%.
Since, NPV of project is a positive value and IRR of project is more than required rate of return, so project should be accepted and company should purchase equipment.
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