Question

 ​(Replacement project cash​ flows)  ​Madrano's Wholesale Fruit Company located in​ McAllen, Texas is considering the purchase of a new fleet of tractors to be used in the delivery of fruits and vegetables grown in the Rio Grande Valley of Texas. If it goes through with the​ purchase, it will spend ​$320,000 on eight rigs. The new trucks will be kept for 5 ​years, during which time they will be depreciated toward a ​$42,000 salvage value using​ straight-line depreciation. The rigs are expected to have a market value in 5 years equal to their salvage value. The new tractors will be used to replace the​ company's older fleet of eight trucks which are fully depreciated but can be sold for an estimated ​$19,000 ​(because the tractors have a current book value of​ zero, the selling price is fully taxable at the​ firm's 27 percent tax​ rate). The existing tractor fleet is expected to be useable for 5 more years after which time they will have no salvage value. The existing fleet of tractors uses ​$205,000 per year in diesel​ fuel, whereas the​ new, more efficient fleet will use only ​$160,000. In​ addition, the new fleet will be covered under​ warranty, so the maintenance costs per year are expected to be only ​$16,000 compared to ​$32,000 for the existing fleet.
a.  What are the differential operating cash flow savings per year during years 1 through 5 for the new​ fleet?
b.  What is the initial cash outlay required to replace the existing fleet with the newer​ tractors?
c.  What does the timeline for the replacement project cash flows for years 0 through 5 look​ like?
d.  If Madrano requires a discount rate of 12 percent for new​ investments, should the fleet be​ replaced?

Answer 1

a.  What are the differential operating cash flow savings per year during years 1 through 5 for the new​ fleet?

Differential Operating Cash Flow = $59542
b.  What is the initial cash outlay required to replace the existing fleet with the newer​ tractors?

Initial Outlay = $306130
c.  What does the timeline for the replacement project cash flows for years 0 through 5 look​ like?

Provided in the image
d.  If Madrano requires a discount rate of 12 percent for new​investments, should the fleet be​ replaced?

NPV of the project is -$67662.49. as the NPV is negative it is not recommended to invest into this fleet