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XYZ corp. is considering investing in a new machine. The new machine cost will $ 8,000...

XYZ corp. is considering investing in a new machine. The new machine cost will $ 8,000 installed. Depreciation expense on the new machine will be $ 1,200 per year for the next five years. At the end of the fifth year XYZ expects to sell the machine for $3000. XYZ will also sell its old machine today that has a book value of $4000 for $4000. The old machine has depreciation expense of $800 per year and zero salvage value. Additionally, XYZ Corp expects that the new machine will increase its EBIT by $3000 in each of the next five years. Assuming that XYZ’s marginal tax rate is 21% and the projects cost of capital is 12%, What is the projects NPV? Round your final answer to two decimals.

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Expert Solution

Incremental Initital investment = new machine cost - sale of old machine = $8,000 - $4,000 = $4,000

Incremental Depreciation = New Machine Depreciation - Old Machine Depreciaiton = $1200 - $900 = $400

Book value of new machine at the end of year 5 = $8,000 - (5 *$1,200) = $2,000

Tax on sale of new machine at the end of year 5 = (Sale value - book value) * tax rate

= ($3,000 - $2,000) * 21%

= $210

After tax sale value of new machine = Sale - Tax on sale

= $3,000 - $210

= $2,790

Incremental salvage value = After tax salvage value of new machine - after tax salvage value of old machine

= $2,790 - 0

= $2,790

Calculation of NPV of the Project
Particulars 0 1 2 3 4 5
Initial Investment
Incremental investment (A) -4000
Operating Cash Flows
Increase in EBIT (B) 3000 3000 3000 3000 3000
Incremental Depreciation (C ) 400 400 400 400 400
Profit Before Tax (D = B-C) 2600 2600 2600 2600 2600
Tax @21% (E = D*21%) 546 546 546 546 546
Profit After Tax (F = D-E) 2054 2054 2054 2054 2054
Add back Depreciation (G = C) 400 400 400 400 400
Net Operating Cash flows (H = F+G) 2454 2454 2454 2454 2454
Terminal Value
Incremental Salvage Value (I) 2790
Total Cash Flows (J = A+H+I) -4000 2454 2454 2454 2454 5244
Discount Factor @12% (K)
1/(1+12%)^n n=0,1,2,3,4,5		 1 0.892857143 0.797193878 0.711780248 0.635518078 0.567426856
Discounted Cash flows (L = J*K) -4000 2191.071429 1956.313776 1746.708728 1559.561364 2975.586431
NPV of the Project 6429.241728

Therefore, Projects NPV is $6,429.24

jeff jeffy answered 1 year ago
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