Question

(Calculating project cash flows and​ NPV)  ​Weir's Trucking, Inc. is considering the purchase of a new production machine for $115,000.

The purchase of this new machine will result in an increase in earnings before interest and taxes of $21,000 per year. To operate this machine​ properly, workers would have to go through a brief training session that would cost

$4,250 after tax. In​ addition, it would cost ​$5,500 after tax to install this machine correctly. ​ Also, because this machine is extremely​ efficient, its purchase would necessitate an increase in inventory of ​$20,000 This machine has an expected life of 10 ​years, after which it will have no salvage value. ​ Finally, to purchase the new​ machine, it appears that the firm would have to borrow ​$90,000 at 10 percent interest from its local​ bank, resulting in additional interest payments of $9,000 per year. Assume simplified​ straight-line depreciation, that this machine is being depreciated down to​ zero, a 32

percent marginal tax​ rate, and a required rate of return of 11 percent.

a.  What is the initial outlay associated with this​ project?

b.  What are the annual​ after-tax cash flows associated with this project for years 1 through 9​?

c.  What is the terminal cash flow in year 10 ​(that is, the annual​ after-tax cash flow in year 10 plus any additional cash flows associated with termination of the​ project)?

d.  Should this machine be​ purchased?

Answer 1

A). Initial Outlay

i. Capex = $115,000

ii. Training = $4250

iii Installation = $ 5500

iv. Increase in Workign Capital = $ 20000

Total = $144,750

B) After Tax Cash Flow is given the Excel Model below

C) Terminal Cash Flow in Year 10

1. Year 10 cash flow = 19660

2. Since the machine has a life of 10 years and no salvage value , no terminal vale can be associated

Hence 19660

D) IRR calculation gives value of 5.99% which is lower than the expected return of 11%. Hence the machine need not be purchased