Question

The Spartan Technology Company has a proposed contract with the Digital Systems Company of Michigan. The initial investment in land and equipment will be $160,000. Of this amount, $145,000 is subject to five-year MACRS depreciation. The balance is in nondepreciable property. The contract covers six years; at the end of six years, the nondepreciable assets will be sold for $15,000. The depreciated assets will have zero resale value. Use Table 12-12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods. The contract will require an additional investment of $47,000 in working capital at the beginning of the first year and, of this amount, $27,000 will be returned to the Spartan Technology Company after six years. The investment will produce $52,000 in income before depreciation and taxes for each of the six years. The corporation is in a 40 percent tax bracket and has a 8 percent cost of capital. a. Calculate the net present value.(Do not round intermediate calculations and round your answer to 2 decimal places.)

Answer 1

Computation of Present Value of Cash Inflow
	Year 1	2	3	4	5	6
EBDT	$52,000	$52,000	$52,000	$52,000	$52,000	$52,000
Less: Depreciation	$29,000	$46,400	$27,840	$16,675	$16,675	$8,410
Earnings bef Tax	$23,000	$5,600	$24,160	$35,325	$35,325	$43,590
Less: Tax @ 40%	$9,200	$2,240	$9,664	$14,130	$14,130	$17,436
Earnings after tax	$13,800	$3,360	$14,496	$21,195	$21,195	$26,154
Add: Depreciation	$29,000	$46,400	$27,840	$16,675	$16,675	$8,410
Annual CFAT	$42,800	$49,760	$42,336	$37,870	$37,870	$34,564
Sale of Non Dep Asset						$15,000
Recovery of Working Capital						$27,000
Total Cash inflow	$42,800	$49,760	$42,336	$37,870	$37,870	$76,564
Add: Recovery of Working capital						$25,000
Total (Annual cash flow)	$35,600	$38,960	$35,376	$33,220	$33,220	$106,624
PVAF @8%	0.9259	0.9259	0.9259	0.9259	0.9259	0.9259
Present Value of Cash Inflow	$32,963	$36,074	$32,756	$30,759	$30,759	$98,726
Total Present Value of Cash inflow in 6 Year=$262037
			Computation of Depreciation as per MACRS
Computation of NPV			Year	Depreciation Base	% of Depreciation	Annual Depreciation
Intial Investment in Land & Equipment	$160,000		1	$145,000	0.2	$29,000
Addition Investment in Working Capital	$47,000		2	$145,000	0.32	$46,400
Total Cash Outlow (b)	$207,000		3	$145,000	0.192	$27,840
Present Value of Cash Inflow (a)	$262,037		4	$145,000	0.115	$16,675
Net Present Value of Cash Flow (a-b)	$55,037		5	$145,000	0.115	$16,675
			6	$145,000	0.058	$8,410
				Total		$145,000