Question

Oxygen Optimization is considering buying a new purification system. The new system would be purchased today for 18,400 dollars. It would be depreciated straight-line to 1,800 dollars over 2 years. In 2 years, the system would be sold and the after-tax cash flow from capital spending in year 2 would be 3,100 dollars. The system is expected to reduce costs by 5,400 dollars in year 1 and by 14,000 dollars in year 2. If the tax rate is 50 percent and the cost of capital is 11.79 percent, what is the net present value of the new purification system project?

Answer 1

Computation of NPV
year	0	1	2
Investment	-18,400
Cost saving		5400	14000
Depreciation		8300	8300
Profit before tax		-2900	5700
Tax @ 50%		-1450	2850
Net income		-1450	2850
Operating cash flow		6850	11150
Post tax salvage value			3,100
Net cash flow	-18,400	6,850	14,250
PVIF @ 11.79%	1	0.894534	0.8001918
Present value	(18,400.00)	6,127.56	11,402.73	(869.71)
NPV =	(869.71)