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