Question

St. Johns River Shipyards's welding machine is 15 years old, fully depreciated, obsolete, and has no salvage value. However, even though it is old, it is still functional as originally designed and can be used for quite a while longer. A new welder will cost $182,500, and have an estimated life of 8 years with no salvage value. The new welder will be much more efficient, however, and this enhanced efficiency will increase earnings before depreciation from $27,000 to $74,000 per year. The new machine will be depreciated over its 5-year MACRS recovery period, so the applicable depreciation rates are 20.00%, 32.00%, 19.20%, 11.52%, 11.52%, and 5.76%. The applicable corporate tax rate is 25%, and the project cost of capital is 12%. What is the NPV if the firm replaces the old welder with the new one?

Please show calculations in Excel.

Answer 1

Calculation of Annual Depreciation under MACRS on new Machine :

Year	MACRS %	Depreciation = Cost of New Welder * MACRS %
1	20	36,500
2	32	58,400
3	19.20	35,040
4	11.52	21,024
5	11.52	21,024
6	5.76	10,512

Calculation of incremental earnings before depreciation :
Incremental Earnings before depreciation = $74,000 - $27,000
                                              = $47,000

Since the NPV of incremental savings from new welder is more than 0, the company should replace its old welder.

Present Value Factor have been calculated as = (1/1+r)n
Where
r= Cost of Capital (Discount rate)
n= No of Year