Question

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $280,000, and it would cost another $42,000 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 $140,000. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require a $14,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $24,000 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 10%, should the spectrometer be purchased?

-Select-YesNo

Answer #1

Spectrometer | 0 | 1 | 2 | 3 | 4 |

MACRS % | 33% | 45% | 15% | 7% | |

Investment | -322,000 | 22,540 | |||

NWC | -14,000 | 14,000 | |||

Salvage | 140,000 | ||||

Savings | 24,000 | 24,000 | 24,000 | ||

Depreciation | -106,260 | -144,900 | -48,300 | ||

EBT | -82,260 | -120,900 | -24,300 | ||

Tax (40%) | 32,904 | 48,360 | 9,720 | ||

Profits | -49,356 | -72,540 | -14,580 | ||

Cash Flows | -336,000 | 56,904 | 72,360 | 140,736 |

Depreciation = MACRS % x Investment

Cash Flows = Investment + NWC + Profits + Depreciation + After-tax Salvage Value

The spectrometer should not be purchased as we do not even recover the initial investment from the project. Hence, No.

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