Question

DISCUSS QUESTION #2 (Refer to Handouts for Chapter 12 posted in Content)

The Killington Company is considering the purchase of a $200,000 computer-based inventory management system. It will be depreciated straight-line to zero over its 4 year life. It will be worth $30,000 at the end of its life. The system will save Killington $60,000 before taxes in inventory- related costs. The relevant tax rate is 21%. This system will free up $45,000 in net working capital.

PRIMARY POST: COMPLETE THE FOLLOWING CHART:

		YEAR
CASH FLOW:	0	1	2	3	4
Initial Cost
Change NWC
Operating Cash Flows
After-tax Salvage Value
CASH FLOW per YEAR:

REPLY POST:

1. Using the correct cash flow numbers, assuming cost of capital is 16%, calculate the NPV. Should the machine be purchased?

CASH FLOW per YEAR:
PV @ 16%

Answer 1

Cost of Equipment = $200,000
Salvage Value = $30,000
Useful Life = 4 years

Annual Depreciation = Cost of Equipment / Useful Life
Annual Depreciation = $200,000 / 4
Annual Depreciation = $50,000

Annual OCF = Annual Cost Saving*(1-tax) + tax*Annual Depreciation
Annual OCF = $60,000 * (1 - 0.21) + 0.21 * $50,000
Annual OCF = $57,900

After-tax Salvage Value = Salvage Value*(1-tax)
After-tax Salvage Value = $30,000 * (1 - 0.21)
After-tax Salvage Value = $23,700