Question

Dog Up! Franks is looking at a new sausage system with an installed cost of $717,600. This cost will be depreciated straight-line to zero over the project's 5-year life, at the end of which the sausage system can be scrapped for $110,400. The sausage system will save the firm $220,800 per year in pretax operating costs, and the system requires an initial investment in net working capital of $51,520.

If the tax rate is 24 percent and the discount rate is 10 percent, what is the NPV of this project?

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Dog Up! Franks is looking at a new sausage system with an installed cost of $717,600. This cost will be depreciated straight-line to zero over the project's 5-year life, at the end of which the sausage system can be scrapped for $110,400. The sausage system will save the firm $220,800 per year in pretax operating costs, and the system requires an initial investment in net working capital of $51,520.

  

If the tax rate is 24 percent and the discount rate is 10 percent, what is the NPV of this project?

Multiple Choice

• $101,195.02

• $29,567.10

• $85,748.13

• $81,664.89

• $49,097.24

Answer 1

Time line		0	1	2	3	4	5
Cost of new machine		-717600
Initial working capital		-51520
=Initial Investment outlay		-769120
savings			220800	220800	220800	220800	220800
-Depreciation	Cost of equipment/no. of years		-143520	-143520	-143520	-143520	-143520
=Pretax cash flows			77280	77280	77280	77280	77280
-taxes	=(Pretax cash flows)*(1-tax)		58732.8	58732.8	58732.8	58732.8	58732.8
+Depreciation			143520	143520	143520	143520	143520
=after tax operating cash flow			202252.8	202252.8	202252.8	202252.8	202252.8
reversal of working capital							51520
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)						83904
+Tax shield on salvage book value	=Salvage value * tax rate						0
=Terminal year after tax cash flows							135424
Total Cash flow for the period		-769120	202252.8	202252.8	202252.8	202252.8	337676.8
Discount factor=	(1+discount rate)^corresponding period	1	1.1	1.21	1.331	1.4641	1.61051
Discounted CF=	Cashflow/discount factor	-769120	183866.18	167151.074	151955.52	138141.38	209670.7
NPV=	Sum of discounted CF=	81664.8876