# A company is evaluating the pr

A company is evaluating the proposed acquisition of a newmachine. The machine’s base price is \$108,000, and it would costanother \$12,500 to modify it for special use. Depreciation ratesare 0.33, 0.45, and 0.15 for years 1, 2, and 3, respectively, andit would be sold after 3 years for \$65,000. The machine wouldrequire an increase in net working capital (inventory) of \$5,500.The machine would have no effect on revenues, but it is expected tosave the firm \$44,000 per year in before-tax operating costs,mainly labor. The company’s marginal tax rate is 35%.

a. What is the net cost of the machine for capital budgetingpurposes? (That is, what is the Year-0 net cash flow?)

b. What are the net operating cash flows in Years 1, 2, and3?

c. What is the additional Year-3 cash flow (i.e., the after-taxsalvage and the return of

working capital)?d. If the project’s cost of capital is 12%, should the machine bepurchased?

 Answer 1 Net cash flow at time 0=Net working cpitalInvestment +fixed capital Investment Net cash outflow=108000+12500+5500 Net cash outflow= 126,000 Answer 2 Year Dep rate Dep expense Net asset value= 120,500 1 33% 39,765 2 45% 54,225 3 15% 18,075 Total 112,065 Book value at year 3 120500-112065 Book value at year 3 8,435 1 2 3 Before tax operating cost 44,000 44,000 44,000 Less tax (15,400) (15,400) (15,400) After tax operating cost 28,600 28,600 28,600 add depreciation 39,765 54,225 18,075 Cash flow 68,365 82,825 46,675 Answer 3 additional year 3 cash flow=salvage vale+networking capital-tax(salvage value-book value) Year 3 additional cash flow= 5500+65000-0.35*(65000-8435) Year 3 additional cash flow= 50,702 Answer 4 Project is acceptable because of positive NPV Method 1 calculate NPV Using NPV Function in excel andsubtract Initial cash Outflow from it Year Machine A 0 (126,000) 1 68,365 2 82,825 3 97,377 Discount rate 12% NPV= 70,378.96 Method 2 Using Financial Calculator Press CF CF0= (126,000) (Press Enter and scroll down) CF1= 68,365 (Press Enter and scroll down Twice) CF2= 82,825 (Press Enter and scroll down Twice) CF3= 97,377 (Press Enter and scroll down Twice) Press NPV Interest= 12% (Press Enter and scroll down) Press CPT+NPV NPV= 70,378.96

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