Question

In: Finance

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price...

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $90,000, and it would cost another $22,500 to modify the equipment for special use by the firm. The equipment falls into the MACRS 3-year class and would be sold after 3 years for $31,500. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require an $14,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $74,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 35%.

  1. What is the initial investment outlay for the spectrometer, that is, what is the Year 0 project cash flow? Enter your answer as a positive value. Round your answer to the nearest cent.
    $  

  3. What are the project's annual cash flows in Years 1, 2, and 3? Do not round intermediate calculations. Round your answers to the nearest cent.
    Year 1: $   
    Year 2: $   
    Year 3: $  

  5. If the WACC is 10%, should the spectrometer be purchased?
    -Select-YesNoItem 5

Solutions

Expert Solution

a.Initial Investment Outlay = Base Price + Modification cost + Increase in Working Capital
=90,000+22500+14000
                                 126,500 since outflow
b.Annual Cash Flows:
Year 1 2 3
Savings in Cost 74,000 74,000 74,000
Less: Depreciation 37,125 50,625 16,875
Net Savings 36,875 23,375 57,125
Less: Tax @35% 12,906.25 8,181.25 19,993.75
Income after Tax 23,968.75 15,193.75 37,131.25
Add: Depreciation 37,125 50,625 16,875
Operating Cash Flow 61,093.75 65,818.75 54,006.25
Add: After tax salvage value 23,231.25
Recovery of Working capital 14,000
Additional cash flows 37,231
Annual Cash Flow 61,093.75 65,818.75 91,237.50
Written down value 7,875
Sale price 31500
Gain on sale 23,625
Tax 8268.75
After tax salvage value 23231.25
c.NPV = Present value of cash inflows – present value of cash outflows
= 61093.75*PVF(10%, 1 year) + 65818.75*PVF(10%, 2 years) + 91237.50*PVF(10%, 3 years) – 126500
51983.51803
Yes, should be purchased (since NPV is positive)

jeff jeffy answered 1 year ago
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