In: Accounting
Your firm bought a new sanding machine for its factory floor two years ago for $40,000. The current market value (Year 0) of the machine is $10,000 and you believe that it will last 5 more years (Years 1 - 5). When you're done with the machine, you can sell it for scrap and receive $1,000. However, your firm is now considering buying a more advanced sander for $80,000. The more advanced machine also last 5 more years. The new machine will have a salvage value of $5,000. The more advanced sander will increase revenues by $50,000 a year and save the company $10,000 in labor costs each year when compared to the old machine. The appropriate discount rate for this project is 12% and the company's tax rate is 35%. Use straight-line depreciation (including the appropriate salvage values).
What is the NPV of replacing the old machine? Be sure you take into account the sale of the old machine (including the tax consequences of the sale) in Year 0. This problem is really all about carefully calculating the cash flows associated with this decision each year. Build a mini-income statement for each year and then take that income and turn it into free cash flow by taking into account depreciation.
NB: Show excel working formula,p please
Old Machine | ||||||||||||
Year 0 | 40000 | Depreciation | ||||||||||
Year 1 | 32000 | 8000 | ||||||||||
Yaer 2 | 24000 | 8000 | ||||||||||
Year 3 | 24000 | In The Beginning of the Year | ||||||||||
Here Considered Zero Salvage value for Depreciation Purpose i.e 40000 - 0 / 5= 8000 | ||||||||||||
Loss on Sale of Old Machine | 24000 - 10000 = 14000 | |||||||||||
Current Market Value | 10000 | |||||||||||
Here Loss is 14000, If this loss is not taken it means we have to pay tax on 14000 X 35% = 4900 due to this loss 4900 will be Cash Inflow | ||||||||||||
At Year 3 Proposal for Buying New Machine | ||||||||||||
Year 0 ( Year 3) | 80000 | Cash Outflow | ||||||||||
Life will be 5 Years | ||||||||||||
Depreciation | 80000 - 5000 / = 15000 | |||||||||||
Analyisis of Cash Inflows | ||||||||||||
Year 0( Sale of Old Machine) | - | - | - | 10000 | 3500 | 6500 | 1 | 6500 | ||||
Year 0 ( Saving on Loss of Sale of Old Machine) | - | - | - | -14000 | -4900 | 4900 | 1 | 4900 | ||||
Incremental Revenue | Savings in Labour Cost | Depreciation | Net Cash Inflows | Tax Rate @ 35% | Net Inflow After TA x | PV @ 12 % | ||||||
Year 1 | 50000 | 10000 | 15000 | 45000 | 15750 | 44250 | 0.8929 | 39509 | ||||
Year 2 | 50000 | 10000 | 15000 | 45000 | 15750 | 44250 | 0.7972 | 35276 | ||||
Year 3 | 50000 | 10000 | 15000 | 45000 | 15750 | 44250 | 0.7118 | 31496 | ||||
Year 4 | 50000 | 10000 | 15000 | 45000 | 15750 | 44250 | 0.6355 | 28122 | ||||
Year 5 | 50000 | 10000 | 15000 | 45000 | 15750 | 44250 | 0.5674 | 25109 | ||||
Year 5 ( Salvage) | - | - | - | 5000 | 1750 | 3250 | 0.5674 | 1844 | ||||
PV Value of Cash Inflows | 172755 | |||||||||||
Cash Ouflows | -80000 | |||||||||||
Net Present Value | 92755 | |||||||||||
Here instead of Presenting Income Statemnet , Refere the table to Understand the Cash inflows. | ||||||||||||
Income Sttament ( Just for Understanding ) | |||
Year 0 | Recepts on Sale Of Old | 10000 | |
Loss on Sale | -14000 | ||
Year 1-4 | |||
Incremental Revneus | 50000 | ||
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