Question

Geary Machine Shop is considering a four-year project to improve its production efficiency. Buying a new machine press for $796,800 is estimated to result in $265,600 in annual pretax cost savings. The press falls in the MACRS five-year class (MACRS Table), and it will have a salvage value at the end of the project of $116,200. The press also requires an initial investment in spare parts inventory of $33,200, along with an additional $4,980 in inventory for each succeeding year of the project.

  

Required :

If the shop's tax rate is 34 percent and its discount rate is 9 percent, what is the NPV for this project? (Do not round your intermediate calculations.)

  
rev: 09_18_2012

$31,852.06

$33,874.03

$-66,226.29

$33,444.66

$30,259.45

Answer 1

Calculation of NPV of the project
Year	0	1	2	3	4	NPV
Investment in new machine press	-$796,800.00
Investment in spare parts inventory	-$33,200.00
Addiotional investment in inventory		-$4,980.00	-$4,980.00	-$4,980.00
Recovery of investment in Inventory					$48,140.00
Pretax cost savings		$265,600.00	$265,600.00	$265,600.00	$265,600.00
Tax on cost savings @ 34%		-$90,304.00	-$90,304.00	-$90,304.00	-$90,304.00
Depreciation Tax shield		$54,182.40	$86,691.84	$52,015.10	$31,209.06
Salvage value (after tax)					$123,505.59
Net Cash Flow	-$830,000.00	$224,498.40	$257,007.84	$222,331.10	$378,150.66
x Discount Factor @ 9%	1	0.917431193	0.841679993	0.77218348	0.708425211
Present Value	-$830,000.00	$205,961.83	$216,318.36	$171,680.41	$267,891.46	$31,852.06
NPV of the project =	$31,852.06
Working
Calculation of depreciation tax shield
Year	Depreciable value	Depreciation Rates (5 year MACRS class)	Depreciation	Depreciation tax shield @ 34%
1	$796,800.00	20.00%	$159,360.00	$54,182.40
2	$796,800.00	32.00%	$254,976.00	$86,691.84
3	$796,800.00	19.20%	$152,985.60	$52,015.10
4	$796,800.00	11.52%	$91,791.36	$31,209.06
			$659,112.96
Calculation of after tax salvage value of new machine press
Sale value	$116,200.00
Less : Book value [$796800 - $659112.96]	$137,687.04
Loss on sale	-$21,487.04
Tax benefit @ 34% of Loss	$7,305.59
After tax salvage value [Sale value + Tax benefit]	$123,505.59