Question

Hagar Industrial Systems Company (HISC) is trying to decide between two different conveyor belt systems. System A costs $365,000, has a 4-year life, and requires $153,000 in pretax annual operating costs. System B costs $445,000, has a 6-year life, and requires $147,000 in pretax annual operating costs. Both systems are to be depreciated straight-line to zero over their lives and will have zero salvage value. Whichever project is chosen, it will not be replaced when it wears out. The tax rate is 25 percent and the discount rate is 11 percent. Calculate the NPV for both conveyor belt systems.

Answer 1

System-A
NPV
Annual operating cost					-153000
Less: tax benefit					-38250
Net cost of operating					-114750
Les: Tax shield on dep			(365000/4*25%)		22812.5
Net annual cost					-91937.5
PVF at 11% for 4 yrs					3.10245
Present value of outflows					-285231
Initial investment					-365000
Net present values					-650231
System-B
NPV
Annual operating cost					-445000
Less: tax benefit					-111250
Net cost of operating					-333750
Les: Tax shield on dep			(445000/6*25%)		18541.67
Net annual cost					-315208
PVF at 11% for 6 yrs					4.23054
Present value of outflows					-1333501
Initial investment					-445000
Net present values					-1778501