Question

Geary Machine Shop is considering a four-year project to improve its production efficiency. Buying a new machine press for $739,200 is estimated to result in $246,400 in annual pretax cost savings. The press falls in the MACRS five-year class (MACRS Table), and it will have a salvage value at the end of the project of $107,800. The press also requires an initial investment in spare parts inventory of $30,800, along with an additional $4,620 in inventory for each succeeding year of the project.

  

Required :

If the shop's tax rate is 34 percent and its discount rate is 13 percent, what is the NPV for this project? (Do not round your intermediate calculations.)

$-40,856.87

$-38,448.95

$-119,629.98

$-42,899.72

$-38,814.03

Answer 1

Answer is -$40,856.87

Initial Investment = $739,200
Useful Life = 4 years

Depreciation Year 1 = 20.00% * $739,200
Depreciation Year 1 = $147,840.00

Depreciation Year 2 = 32.00% * $739,200
Depreciation Year 2 = $236,544.00

Depreciation Year 3 = 19.20% * $739,200
Depreciation Year 3 = $141,926.40

Depreciation Year 4 = 11.52% * $739,200
Depreciation Year 4 = $85,155.84

Book Value at the end of Year 4 = $739,200.00 - $147,840.00 - $236,544.00 - $141,926.40 - $85,155.84
Book Value at the end of Year 4 = $127,733.76

After-tax Salvage Value = Salvage Value - (Salvage Value - Book Value) * tax rate
After-tax Salvage Value = $107,800 - ($107,800 - $127,733.76) * 0.34
After-tax Salvage Value = $114,577.4784

Year 0:

Net Cash Flows = Initial Investment + Initial Investment in NWC
Net Cash Flows = -$739,200 - $30,800
Net Cash Flows = -$770,000

Year 1:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $246,400 * (1 - 0.34) + 0.34 * $147,840
Operating Cash Flow = $212,889.60

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $212,889.60 - $4,620
Net Cash Flows = $208,269.60

Year 2:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $246,400 * (1 - 0.34) + 0.34 * $236,544
Operating Cash Flow = $243,048.96

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $243,048.96 - $4,620
Net Cash Flows = $238,428.96

Year 3:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $246,400 * (1 - 0.34) + 0.34 * $141,926.40
Operating Cash Flow = $210,878.976

Net Cash Flows = Operating Cash Flow - Investment in NWC
Net Cash Flows = $210,878.976 - $4,620
Net Cash Flows = $206,258.976

Year 4:

Operating Cash Flow = Pretax Cost Saving * (1 - tax) + tax * Depreciation
Operating Cash Flow = $160,000 * (1 - 0.25) + 0.25 * $85,155.84
Operating Cash Flow = $191,576.9856

Net Cash Flows = Operating Cash Flow + NWC recovered + After-tax Salvage Value
Net Cash Flows = $191,576.9856 + $44,660 + $114,577.4784
Net Cash Flows = $350,814.4640

Required Return = 13%

NPV = -$770,000 + $208,269.60/1.13 + $238,428.96/1.13^2 + $206,258.976/1.13^3 + $350,814.464/1.13^4
NPV = -$40,856.87