Question

Universal Electronics is considering the purchase of manufacturing equipment with a 10-year midpoint in its asset depreciation range (ADR). Carefully refer to Table 12–11 to determine in what depreciation category the asset falls. (Hint: It is not 10 years.) The asset will cost $180,000, and it will produce earnings before depreciation and taxes of $55,000 per year for three years, and then $28,000 a year for seven more years. The firm has a tax rate of 25 percent. Assume the cost of capital is 12 percent. In doing your analysis, if you have years in which there is no depreciation, merely enter a zero for depreciation. Use Table 12–12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.

a. Calculate the net present value. (Do not round intermediate calculations and round your answer to 2 decimal places.)

b. Based on the net present value, should Universal Electronics purchase the asset?

• Yes

• No

Answer 1

a

Ref	Particulars		Year 1	Year 2	Year 3	Year 4	Year 5	6	7	8	9	10
a	Operating cash flow		$       55,000.00	$               55,000.00	$   55,000.00	$   28,000.00	$   28,000.00	$   28,000.00	$   28,000.00	$   28,000.00	$   28,000.00	$   28,000.00
b	Depreciation		$       25,722.00	$               44,082.00	$   31,482.00	$   22,482.00	$   16,074.00	$   16,056.00	$   16,074.00	$     8,028.00	$                 -	$                 -
c=a-b	Profit before tax		$       29,278.00	$               10,918.00	$   23,518.00	$     5,518.00	$   11,926.00	$   11,944.00	$   11,926.00	$   19,972.00	$   28,000.00	$   28,000.00
	Less: taxes		$         7,319.50	$                 2,729.50	$     5,879.50	$     1,379.50	$     2,981.50	$     2,986.00	$     2,981.50	$     4,993.00	$     7,000.00	$     7,000.00
	Profit after tax		$       21,958.50	$                 8,188.50	$   17,638.50	$     4,138.50	$     8,944.50	$     8,958.00	$     8,944.50	$   14,979.00	$   21,000.00	$   21,000.00
	Add: depreciation		$       25,722.00	$               44,082.00	$   31,482.00	$   22,482.00	$   16,074.00	$   16,056.00	$   16,074.00	$     8,028.00	$                 -	$                 -
	Cash flow after tax		$       47,680.50	$               52,270.50	$   49,120.50	$   26,620.50	$   25,018.50	$   25,014.00	$   25,018.50	$   23,007.00	$   21,000.00	$   21,000.00
d	Present value factor@ 12.0%		0.892857143	0.797193878	0.711780248	0.635518078	0.567426856	0.506631121	0.452349215	0.403883228	0.360610025	0.321973237
e=c*d	Present value of annual cashflows		$       42,571.88	$               41,669.72	$   34,963.00	$   16,917.81	$   14,196.17	$   12,672.87	$   11,317.10	$     9,292.14	$     7,572.81	$     6,761.44
	Total present value of annual cash inflows		$     197,934.94
	Less: investment		$     180,000.00
	NPV		$       17,934.94

Depreciation		Year 1	Year 2	Year 3	year 4	year 5	year 6	year 7	year 8
Asset cost		$           180,000	$                  180,000	$      180,000	$      180,000	$      180,000	$      180,000	$      180,000	$      180,000
× depreciation rate		14.29%	24.49%	17.49%	12.49%	8.93%	8.92%	8.93%	4.46%
Depreciation		$             25,722	$                    44,082	$        31,482	$        22,482	$        16,074	$        16,056	$        16,074	$           8,028

NPV is $17,934.94

2

Yes

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