a Mississippi River Shipyards is considering the replacement

a) Mississippi River Shipyards is considering the replacement of an 8-year-old riveting machine with a new one that will increase earnings before depreciation from $24,000 to $50,000 per year. The new machine will cost $82,500, and it will have an estimated life of 8 years and no salvage value. The new machine will be depreciated over its 5-year MACRS recovery period; so the applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. The applicable corporate tax rate is 40%, and the firm\'s WACC is 14%. The old machine has been fully depreciated and has no salvage value.

What is the NPV of the project? Round your answer to the nearest cent.

b) You must evaluate a proposed spectrometer for the R&D department. The base price is $290,000, and it would cost another $58,000 to modify the equipment for special use by the firm. The equipment falls into the MACRS 3-year class and would be sold after 3 years for $130,500. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require an $14,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $43,000 per year in before-tax labor costs. The firm\'s marginal federal-plus-state tax rate is 40%.

What is the project\'s annual cash flow in Year 3? Round your answers to the nearest cent.

Solution

Mississippi River Shipyards A B C D E F G H I Year 0 1 2 3 4 5 6 7 8 1 New machine -82500 2 Earnings 50000 50000 50000 50000 50000 50000 50000 50000 3 Depreciation rate 20% 32% 19% 12% 11% 6% 4 Depreciation = Depreciation rate * New machine 16500 26400 15675 9900 9075 4950 0 0 5 EBIT= Earnings - Depreciation 33500 23600 34325 40100 40925 45050 50000 50000 6 Tax =EBIT*Tax rate 13400 9440 13730 16040 16370 18020 20000 20000 7 Net Income =EBIT-tax 20100 14160 20595 24060 24555 27030 30000 30000 8 Depreciation 16500 26400 15675 9900 9075 4950 0 0 9 Free Cash Flow -82500 36600 40560 36270 33960 33630 31980 30000 30000 10 WACC 14% NPV 79945.05 NPV(A10,B9:I9)+A9 R&D project A B C D Year 0 1 2 3 1 Spectrometer -290000 2 Modification Cost -58000 3 Net working capital -14000 4 Cost savings before rax 43000 43000 43000 5 Depreciation rate 33% 45% 15% 6 Depreciation = Depreciation rate * (New machine+modification cost) 114840.00 156600.00 52200.00 7 EBIT= Earnings - Depreciation -71840.00 -113600.00 -9200.00 8 Tax =EBIT*Tax rate -28736.00 -45440.00 -3680.00 9 Net Income =EBIT-tax -43104.00 -68160.00 -5520.00 10 Depreciation 114840.00 156600.00 52200.00 14 After Tax Salvage Value= Salvage Value*(1-tax rate) 78300.00 Free Cash flows -362000.00 71736.00 88440.00 124980.00