Question

Gamma Inc. is looking at a new product line with an installed cost of $520,000. This cost will be depreciated straight-line to $20,000 over the project’s five-year life. At the end of the project life, the installed machine can be scrapped and sold for $27,701. The machine will add $185,000 per year as sales and incur an additional $55,000, but will decrease $9,578 from the existing product line's sales. The system requires an initial investment in net working capital of $46,609. The NWC level will be maintained throughout the project years and recoverable at the end of the project. Assume the cost of capital is 6.5%, and Gamma Inc. belongs to the 35% tax bracket. Compute the NPV of the project and determine whether you will invest in this project.  Round your answer to two decimal places.

Answer 1

Ref	Particulars		Year 1	Year 2	Year 3	Year 4	Year 5
a	Incremental sales		$        120,422.00	$            120,422.00	$     120,422.00	$     120,422.00	$     120,422.00
	Gain on sale of asset						$          7,701.00
b	Depreciation		$      (100,000.00)	$           (100,000.00)	$    (100,000.00)	$    (100,000.00)	$    (100,000.00)
c=a-b	Profit before tax		$          20,422.00	$               20,422.00	$        20,422.00	$        20,422.00	$        28,123.00
	Profit after tax		$          13,274.30	$               13,274.30	$        13,274.30	$        13,274.30	$        18,279.95
	Add depreciation		$        100,000.00	$            100,000.00	$     100,000.00	$     100,000.00	$     100,000.00
	Less: gain on sale of asset						$        (7,701.00)
	Add: working capital +sale proceeds on assets		$                        -	$                             -		$                      -	$        74,310.00
	Free cash flow		$        113,274.30	$            113,274.30	$     113,274.30	$     113,274.30	$     184,888.95
d	Present value factor@ 6.5%		0.938967136	0.881659283	0.827849092	0.777323091	0.729880837
e=c*d	Present value of annual cashflows		$        106,360.85	$               99,869.34	$        93,774.03	$        88,050.73	$     134,946.90
	Total present value of annual cash inflows		$        523,001.84
	Investment:
	Equipment		$      (520,000.00)
	Working capital		$        (46,609.00)
	NPV		$        (43,607.16)

NPV is negative. Project is rejected.