Question

Overnight Laundry is considering the purchase of a new pressing machine that would cost $111,360 and would produce incremental operating cash flows of $29,000 annually for 10 years. The machine has a terminal value of $6,960 and is depreciated for income tax purposes using straight-line depreciation over a 10-year life (ignore the half-year convention). Overnight Laundry's marginal tax rate is 33.3%. The company uses a discount rate of 18%.

What is the net present value of the project?

* While calculating depreciation for taxation purposes, please ignore salvage value of the machine and calculate the depreciation on the original value of the machine.

Answer 1

Answer :

Determination of Annual cashinflow

Particulars	Amount ($)
Incremental cash inflow	29,000
Less : Depreciation expense (111360 -6960)/10	(10,440)
Income tax before tax	18,560
Less : Income tax @33.3%	(6,180)
Net income	12,380
Add : Depreciation expense	10,440
Annual operating cash inflow	22,820

Terminal after tax cash inflow is = 6960*(1-0.333)

Terminal after tax cash inflow is = $4,642.32

Initail cash outflow is $111,360

Determination of Net present value

Year	Flows ($)	Factor @18%	Value ($)
0	(1,11,360)	1.0000	-1,11,360.00
1	22,820	0.8475	19,338.98
2	22,820	0.7182	16,388.97
3	22,820	0.6086	13,888.96
4	22,820	0.5158	11,770.30
5	22,820	0.4371	9,974.83
6	22,820	0.3704	8,453.25
7	22,820	0.3139	7,163.77
8	22,820	0.2660	6,070.99
9	22,820	0.2255	5,144.91
10	22,820	0.1911	4,360.09
10	4,642	0.1911	886.92
-	-	Net present vaue	-7,918.03

Net present value of th e project is -$7,918/-