Question

New-Project Analysis

The Campbell Company is considering adding a robotic paint sprayer to its production line. The sprayer's base price is $1,000,000, and it would cost another $23,000 to install it. The machine falls into the MACRS 3-year class (the applicable MACRS depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%), and it would be sold after 3 years for $620,000. The machine would require an increase in net working capital (inventory) of $14,000. The sprayer would not change revenues, but it is expected to save the firm $469,000 per year in before-tax operating costs, mainly labor. Campbell's marginal tax rate is 30%. Cash outflows, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answers to the nearest dollar.

1. What is the Year-0 net cash flow?

   $  

2. What are the net operating cash flows in Years 1, 2, and 3?

   Year 1:	$
   Year 2:	$
   Year 3:	$

3. What is the additional Year 3 cash flow (i.e, the after-tax salvage and the return of working capital)?

   $  

4. If the project's cost of capital is 12 %, what is the NPV of the project?

   $  

   Should the machine be purchased?

   -Select-YesNo

Answer 1

Initial Investment = Base Price + Installation Cost
Initial Investment = $1,000,000 + $23,000
Initial Investment = $1,023,000

Useful Life = 3 years

Depreciation Year 1 = 33.33% * $1,023,000
Depreciation Year 1 = $340,965.90

Depreciation Year 2 = 44.45% * $1,023,000
Depreciation Year 2 = $454,723.50

Depreciation Year 3 = 14.81% * $1,023,000
Depreciation Year 3 = $151,506.30

Book Value at the end of Year 3 = $1,023,000 - $340,965.90 - $454,723.50 - $151,506.30
Book Value at the end of Year 3 = $75,804.30

After-tax Salvage Value = Salvage Value - (Salvage Value - Book Value) * tax rate
After-tax Salvage Value = $620,000 - ($620,000 - $75,804.30) * 0.30
After-tax Salvage Value = $456,741

Initial Investment in NWC = $14,000

Answer a.

Year 0:

Net Cash Flows = Initial Investment + Initial Investment in NWC
Net Cash Flows = -$1,023,000 - $14,000
Net Cash Flows = -$1,037,000

Answer b.

Year 1:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $469,000 * (1 - 0.30) + 0.30 * $340,965.90
Operating Cash Flow = $430,590

Year 2:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $469,000 * (1 - 0.30) + 0.30 * $454,723.50
Operating Cash Flow = $464,717

Year 3:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $469,000 * (1 - 0.30) + 0.30 * $151,506.30
Operating Cash Flow = $373,752

Answer c.

Additional Cash Flows = NWC recovered + After-tax Salvage Value
Additional Cash Flows = $14,000 + $456,741
Additional Cash Flows = $470,741

Answer d.

Cost of Capital = 12%

NPV = -$1,037,000 + $430,590/1.12 + $464,717/1.12^2 + $373,752/1.12^3 + $470,741/1.12^3
NPV = $319,018

Yes, the machine should be purchased as NPV is positive.