Question

Please show work

Market Top Investors, Inc., is considering the purchase of a $340,000 computer with an economic life of five years. The computer will be fully depreciated over five years using the straight-line method, at which time it will be worth $36,000. The computer will replace two office employees whose combined annual salaries are $82,000. The machine will also immediately lower the firm’s required net working capital by $71,000. This amount of net working capital will need to be replaced once the machine is sold. The corporate tax rate is 21 percent. The appropriate discount rate is 8 percent.

Calculate the NPV of this project. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Is it worthwhile to buy the computer? No Yes

Answer 1

Initial Investment = $340,000
Useful Life = 5 years

Annual Depreciation = Initial Investment / Useful Life
Annual Depreciation = $340,000 / 5
Annual Depreciation = $68,000

Initial Investment in NWC = -$71,000

Salvage Value = $36,000

After-tax Salvage Value = $36,000 * (1 - 0.21)
After-tax Salvage Value = $28,440

Annual Cost Saving = $82,000

Annual Operating Cash Flow = Cost Saving * (1 - tax) + tax * Depreciation
Annual Operating Cash Flow = $82,000 * (1 - 0.21) + 0.21 * $68,000
Annual Operating Cash Flow = $79,060

Year 0:

Net Cash Flows = Initial Investment + Initial Investment in NWC
Net Cash Flows = -$340,000 - (-$71,000)
Net Cash Flows = -$269,000

Year 1 - Year 4:

Net Cash Flows = Operating Cash Flow
Net Cash Flows = $79,060

Year 5:

Net Cash Flows = Operating Cash Flow + NWC recovered + After-tax Salvage Value
Net Cash Flows = $79,060 - $71,000 + $28,440
Net Cash Flows = $36,500

Required return = 8%

NPV = -$269,000 + $79,060/1.08 + $79,060/1.08^2 + $79,060/1.08^3 + $79,060/1.08^4 + $36,500/1.08^5
NPV = $17,698.03

NPV of this project is $17,698.03. Yes, it is worthwhile to buy the computer