Question

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $230,000, and it would cost another $57,500 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 $80,500. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require an $9,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $51,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 40%. The data has been collected in the Microsoft Excel Online file below. Open the spreadsheet and perform the required analysis to answer the questions below.

1. 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.

2. 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 $

Answer 1

Time line		0	1	2	3
Cost of new machine		-287500
Initial working capital		-9000
=a. Initial Investment outlay		-296500
3 years MACR rate			33.00%	45.00%	15.00%
Savings			51000	51000	51000
-Depreciation	=Cost of machine*MACR%	-94875	-129375	-43125
=Pretax cash flows			-43875	-78375	7875
-taxes	=(Pretax cash flows)*(1-tax)	-26325	-47025	4725
+Depreciation			94875	129375	43125
=b. after tax operating cash flow			68550	82350	47850