Question

Your firm is contemplating the purchase of a new $500,000 computer-based order entry system. The system will be depreciated straight-line to zero over its five-year life. It will be worth $44,000 at the end of that time. You will be able to reduce working capital by $69,000 (this is a one-time reduction). The tax rate is 23 percent and the required return on the project is 11 percent. If the pretax cost savings are $150,000 per year, what is the NPV of this project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

	Year 0	1	2	3	4	5
Cost	-500,000
Reduction in Working Capital	69,000
Savings		150,000	150,000	150,000	150,000	150,000
Depreciation		100,000	100,000	100,000	100,000	100,000
Income before tax		50,000	50,000	50,000	50,000	50,000
Tax		11,500	11,500	11,500	11,500	11,500
Income after Tax		38,500	38,500	38,500	38,500	38,500
Add: Depreciation		100,000	100,000	100,000	100,000	100,000
Cash flows		138,500	138,500	138,500	138,500	138,500
Working capital induced back						-69,000
Salvage value net of tax						33,880

NPV = present value of cash inflows – present value of cash outflows

= -500,000+69,000 + 138,500*PVAF(11%, 5 years) + (-69,000+33,880)*PVF(11%, 5 years)

= -431,000 + 138,500*3.6959 - 35,120*0.593

= $60,055.99