In: Accounting
Payback Period and NPV: Taxes and Straight-Line Depreciation
Assume that United Technologies Corporation is evaluating a proposal to change the company's manual design system to a computer-aided design (CAD) system. The proposed system is expected to save 13,500 design hours per year; an operating cost savings of $55 per hour. The annual cash expenditures of operating the CAD system are estimated to be $300,000. The CAD system requires an initial investment of $750,000. The estimated life of this system is five years with no salvage value. The tax rate is 35 percent, and United Technologies uses straight-line depreciation for tax purposes. United Technologies has a cost of capital of 14 percent.
(a) Compute the annual after-tax cash flows related to the CAD project. $ Answer
(b) Compute each of the following for the project:
1. Payback period. Round your answer to 2 decimal places. Answer years
2. Net present value. (Round answer to the nearest whole number.) $ Answer
Answer
a.
Annual Saving |
742,500.00 |
Cost |
(300,000.00) |
Depreciation |
(150,000.00) |
Net Income |
292,500.00 |
Tax @35% |
(102,375.00) |
Cash Inflow after tax |
190,125.00 |
Depreciation |
150,000.00 |
Net Cash Inflow |
340,125.00 |
b.
Net Cash Inflow = $340,125 per year.
I am assuming u need to calculate Payback period using Un-Discounted Cash Inflow.
Payback period = 2 Years + ($750,000 – ($340,125 * 2)) / 190,125
Payback period = 2.37 Years
NPV |
|||
Year |
Project |
PVF @14% |
Present Value |
Initial Investment |
(750,000.00) |
1 |
(750,000.00) |
Year 1 |
340,125.00 |
0.877192982 |
298,355.26 |
Year 2 |
340,125.00 |
0.769467528 |
261,715.14 |
Year 3 |
340,125.00 |
0.674971516 |
229,574.69 |
Year 4 |
340,125.00 |
0.592080277 |
201,381.30 |
Year 5 |
340,125.00 |
0.519368664 |
176,650.27 |
NPV |
417,676.66 |
||
Annual Cash Inflow = $340,125
Time = 5 Years
Present Value Annuity Factor @14% for 5 Years = 3.433081 (U can calculate it on Normal Calculator or it is given in the exams)
Present Value of Cash Inflow = Annual Cash Inflow * PVAF @14% for 5 Years
= $340,125 * 3.433081
Present Value of Cash Inflow = $1,167,676.68
NPV = Present Value of Cash Inflow – Initial Investment
= $1,167,676.68– 750,000
NPV = $417,676.68
There is difference of $0.02 due to rounding off.
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