Question

You are evaluating a capital budgeting replacement project with a net investment of $85,000, which includes both an after-tax salvage from the old asset of $5,000 and an additional working capital investment of $10,000. The expected annual incremental cash flows after-tax is $14,000. The project has a life of 9 years with an expected terminal value at the end of the project of $13,000. The cost of capital of the firm is 10 percent and the firm’s marginal tax rate is 40 percent. What is the net present value of the project?

Answer #1

Year | Cash flow | Present value calculation | Present value |

0 | -90000 | -90,000.00 | |

1 | 14000 | =14000/(1+10%)^1 | 12,727.27 |

2 | 14000 | =14000/(1+10%)^2 | 11,570.25 |

3 | 14000 | =14000/(1+10%)^3 | 10,518.41 |

4 | 14000 | =14000/(1+10%)^4 | 9,562.19 |

5 | 14000 | =14000/(1+10%)^5 | 8,692.90 |

6 | 14000 | =14000/(1+10%)^6 | 7,902.64 |

7 | 14000 | =14000/(1+10%)^7 | 7,184.21 |

8 | 14000 | =14000/(1+10%)^8 | 6,531.10 |

9 | 27000 | =27000/(1+10%)^9 | 11,450.64 |

NPV |
-3,860.40 |

Initial cost of project & Net working capital = 85000 + 5000 |

Initial cost of project & Net working capital = 90000 |

Year 9 Cash flow = Annual cash flow + Salvage value |

Year 9 Cash flow = 14000 + 13000 = 27000 |

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