Your firm is contemplating the purchase of a new $700,000 computer-based order entry system. The system...

Your firm is contemplating the purchase of a new $700,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $60,000 at the end of that time. You will need to increase your working capital by $81,000 by purchasing additional inventory at the beginning of the project (this is a one-time increase). The tax rate is 34 percent and the required return on the project is 15 percent.

If the pretax cost savings are $344,000 per year, what is the NPV of this project?

Expert Solution

DEPRECIATION = 700000-60000/5= 128000

	YEAR	0	1	2	3	4	5
	INITIAL OUTLAY	-700000
	WORKING CAPITAL	-81000
	COST SAVINGS		344000	344000	344000	344000	344000
LESS:-	DEPRECIATION		128000	128000	128000	128000	128000
	PRE TAX INCOME		216000	216000	216000	216000	216000
LESS:-	TAX @ 34%		73440	73440	73440	73440	73440
	AFTER TAX INCOME		142560	142560	142560	142560	142560
ADD:-	DEPRECIATION		128000	128000	128000	128000	128000
	CASH FLOWS	-781000	270560	270560	270560	270560	270560
	RELEASING OF WORKING CAPITAL						81000
	SALVAGE VALUE						60000
	CASH FLOW IN FIFTH YEAR						411560
	PVIF @ 15%	1.000	0.8696	0.7561	0.6575	0.5718	0.4972
	PRESENT VALUES	-781000	235279	204570	177893	154706	204628

	NPV = (-781000+235279+204570+177893+154706+204628)
	NPV = 196076

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