Question

Click here to read the eBook: Analysis of an Expansion Project NEW PROJECT ANALYSIS You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $290,000, and it would cost another $58,000 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 $116,000. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require a $13,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $72,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 40%. What is the initial investment outlay for the spectrometer, that is, what is the Year 0 project cash flow? Round your answer to the nearest cent. Negative amount should be indicated by a minus sign. $ What are the project's annual cash flows in Years 1, 2, and 3? Round your answers to the nearest cent. In Year 1 $ In Year 2 $ In Year 3 $ If the WACC is 11%, should the spectrometer be purchased? -Select-YesNo

Answer 1

Time line		0	1	2	3
Cost of new machine		-348000
Initial working capital		-13000
=Initial Investment outlay		-361000
3 years MACR rate			33.00%	45.00%	15.00%	7.00%
Savings			72000	72000	72000
-Depreciation	=Cost of machine*MACR%		-114840	-156600	-52200	24360	=Salvage Value
=Pretax cash flows			-42840	-84600	19800
-taxes	=(Pretax cash flows)*(1-tax)		-25704	-50760	11880
+Depreciation			114840	156600	52200
=after tax operating cash flow			89136	105840	64080
reversal of working capital					13000
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)				69600
+Tax shield on salvage book value	=Salvage value * tax rate				9744
=Terminal year after tax cash flows					92344
Total Cash flow for the period		-361000	89136	105840	156424
Discount factor=	(1+discount rate)^corresponding period	1	1.11	1.2321	1.367631
Discounted CF=	Cashflow/discount factor	-361000	80302.7027	85902.1183	114375.881
NPV=	Sum of discounted CF=	-80419.29833

Reject project as NPV is negative