Problem 8-11 Cost-Cutting Proposals
Blue Line Machine Shop is considering a four-year project to
improve its production efficiency. Buying a new machine press for
$560,000 is estimated to result in $235,000 in annual pretax cost
savings. The press falls in the MACRS five-year class, and it will
have a salvage value at the end of the project of $94,000. The
press also requires an initial investment in spare parts inventory
of $29,000, along with an additional $3,400 in inventory for each
succeeding year of the project. The shop’s tax rate is 35 percent
and the project's required return is 9 percent. Refer to Table
8.3.
Calculate the NPV of this project. (Do not round
intermediate calculations and round your answer to 2 decimal
places, e.g., 32.16.)
NPV $
Time line | 0 | 1 | 2 | 3 | 4 | |||
Cost of new machine | -560000 | |||||||
Initial working capital | -29000 | |||||||
=Initial Investment outlay | -589000 | |||||||
5 years MACR rate | 20.00% | 32.00% | 19.20% | 11.52% | 17.28% | |||
Profits | 235000 | 235000 | 235000 | 235000 | ||||
-Depreciation | =Cost of machine*MACR% | -112000 | -179200 | -107520 | -64512 | 96768 | =Salvage Value | |
-working capital to be maintained | -3400 | -3400 | -3400 | -3400 | ||||
=Pretax cash flows | 119600 | 52400 | 124080 | 167088 | ||||
-taxes | =(Pretax cash flows)*(1-tax) | 77740 | 34060 | 80652 | 108607.2 | |||
+Depreciation | 112000 | 179200 | 107520 | 64512 | ||||
=after tax operating cash flow | 189740 | 213260 | 188172 | 173119.2 | ||||
reversal of working capital | 42600 | |||||||
+Proceeds from sale of equipment after tax | =selling price* ( 1 -tax rate) | 61100 | ||||||
+Tax shield on salvage book value | =Salvage value * tax rate | 33868.8 | ||||||
=Terminal year after tax cash flows | 137568.8 | |||||||
Total Cash flow for the period | -589000 | 189740 | 213260 | 188172 | 310688 | |||
Discount factor= | (1+discount rate)^corresponding period | 1 | 1.09 | 1.1881 | 1.295029 | 1.4115816 | ||
Discounted CF= | Cashflow/discount factor | -589000 | 174073.3945 | 179496.6754 | 145303.3098 | 220099.21 | ||
NPV= | Sum of discounted CF= | 129972.59 |
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