Question

. Beckett, Inc. is evaluating a capital expenditure proposal that requires an initial investment of $1,200,000 and has predicted pre-tax cash inflows of $200,000 per year for 10 years. The new equipment will have no salvage value, but will replace an old piece of equipment valued on the books at $150,000 that can sell for $120,000. Beckett pays a tax rate of 20%, and has a required rate of return of 12% (PV of single value factor for 10 years = 0.3220; PV of annuity factor for 10 years = 5.6502).

               _________________________________ a.       What is the net initial investment required for the project?

               _________________________________ b.         How much are the annual cash flows (undiscounted) associated with the project?

               _________________________________ c.         What is the net present value of the project? Show all work to get full credit.

Answer 1

a)

Net initial investment required for the project=Initial investment for the project-Cash received from selling the machine

Initial investment=$1,200,000

Cash recevied from selling the machine=$120,000

Net initial investment=$1,200,000-$120,000

Net initial investment=$1,080,000

b)

Annual discounted cash flows= Annual cashi inflow-Depriciation-Taxes

Annual cash inflow=$200,000

Depreciation=Cost of project/Project life

=1,200,000/10

Depreciation=$120,000

Tax=($200,000-$120,000)*20%

Tax=$16,000

Annual dsicounted cash flows=$200,000-$120,000-$16,000

Annual dsicounted cash flows=$64,000

c)

Net present value=Present value of cash inflows-Initial investment

Present value of cash inflows=(Annual cash flows*PV of annuity factors for 10 years)

=64,000*5.6502

Present value of cash inflows=$361,613

Initial investment=$1,080,000

Net present value=$361,613-$1,080,000

Net present value= -$718,387