Question

New-Project Analysis

The president of the company you work for has asked you to evaluate the proposed acquisition of a new chromatograph for the firm’s R&D department. The equipment's basic price is $60,000, and it would cost another $15,000 to modify it for special use by your firm. The chromatograph, which falls into the MACRS 3-year class, would be sold after 3 years for $27,000. The MACRS rates for the first 3 years are 0.3333, 0.4445 and 0.1481. Use of the equipment would require an increase in net working capital (spare parts inventory) of $2,400. The machine would have no effect on revenues, but it is expected to save the firm $18,000 per year in before-tax operating costs, mainly labor. The firm's marginal federal-plus-state tax rate is 30%.

1. What is the Year 0 net cash flow? If the answer is negative, use parentheses.
   $
2. 
   
3. 
   
4. 
   
5. What are the net operating cash flows in Years 1, 2, and 3? Do not round intermediate calculations. Round your answers to the nearest dollar.

   Year 1	$
   Year 2	$
   Year 3	$

6. 
   
7. What is the additional (nonoperating) cash flow in Year 3? Do not round intermediate calculations. Round your answer to the nearest dollar.
   $
8. 
   
9. 
   
10. 
    
11. If the project's cost of capital is 13%, should the chromatograph be purchased?
    -Select-YesNoItem 6

Answer 1

a.Initial Investment Outlay = Base Price + Modification cost + Increase in Working Capital
=-60,000-15,000-2,400
(77,400)	since outflow
b.Annual Cash Flows:
	Year 1	2	3
Savings in Cost	18,000	18,000	18,000
Less: Depreciation	24,998	33,338	11,108
Net Savings	-6,998	-15,338	6,893
Less: Tax @30%	-2,099.25	-4,601.25	2,067.75
Income after Tax	-4,898.25	-10,736.25	4,824.75
Add: Depreciation	24,998	33,338	11,108
Operating Cash Flow	20,099.25	22,601.25	15,932.25
Add: After tax salvage value			20,567.25
Recovery of Working capital			2,400
Additional cash flows			22,967.25
Annual Cash flows	20,099.25	22,601.25	38,899.50
Written down value	5,558
Sale price	27000
Gain on sale	21,443
Tax	6432.75
After tax salvage value	20567.25
c.NPV = Present value of cash inflows – present value of cash outflows
= 20,099.25*PVF(13%, 1 year) + 22601.25*PVF(13%, 2 years) + 38,899.50*PVF(13%, 3 years) – 77400
-14953.65433
No, should not be purchased (since NPV is negative)