Question

You must evaluate a proposal to buy a new milling machine. The base price is $143,000, and shipping and installation costs would add another $11,000. The machine falls into the MACRS 3-year class, and it would be sold after 3 years for $92,950. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The machine would require a $8,500 increase in net operating working capital (increased inventory less increased accounts payable). There would be no effect on revenues, but pretax labor costs would decline by $37,000 per year. The marginal tax rate is 35%, and the WACC is 14%. Also, the firm spent $5,000 last year investigating the feasibility of using the machine.

1. hat is the initial investment outlay for the machine for capital budgeting purposes, that is, what is the Year 0 project cash flow? Round your answer to the nearest cent.
   $

2. What are the project's annual cash flows during Years 1, 2, and 3? Round your answer to the nearest cent. Do not round your intermediate calculations.

   Year 1 $

   Year 2 $

   Year 3 $

Answer 1

a.Initial Investment Outlay = Base Price + Modification cost + Increase in Working Capital
=-143,000-11000-8500
(162,500)	since outflow
b.Annual Cash Flows:
	Year 1	2	3
Savings in Cost	37,000	37,000	37,000
Less: Depreciation	50,820	69,300	23,100
Net Savings	-13,820	-32,300	13,900
Less: Tax @35%	-4,837.00	-11,305.00	4,865.00
Income after Tax	-8,983.00	-20,995.00	9,035.00
Add: Depreciation	50,820	69,300	23,100
Operating Cash Flow	41,837.00	48,305.00	32,135.00
Add: After tax salvage value			64,190.50
Recovery of Working capital			8,500
Additional cash flows			72,691
Annual Cash Flows	41,837.00	48,305.00	104,825.50
Written down value	10,780
Sale price	92950
Gain on sale	82,170
Tax	28759.5
After tax salvage value	64190.5