Question

CSM Machine Shop is considering a four-year project to improve its production efficiency. Buying a new machine press for $421,000 is estimated to result in $157,000 in annual pretax cost savings. The press is eligible for 100 percent bonus depreciation and it will have a salvage value at the end of the project of $58,000. The press also requires an initial investment in spare parts inventory of $16,300, along with an additional $3,300 in inventory for each succeeding year of the project. The shop's tax rate is 23 percent and its discount rate is 10 percent. Calculate the project's NPV. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) NPV

Answer 1

operating cash flow (OCF) each year = incremental earnings after tax + depreciation - investment in inventory.

The investment in inventory is recovered at the end of year 4. Hence, the investment in inventory in this year is negative.

NPV is calculated using NPV function in Excel. NPV is $66,063.58.

f NPV(10%,C21:F21)+B21 B23 A C E F 1 0 1 2 4 2 Initial Investment $421,000 Cost of machine 3 5 OCF 6 Pretax cost savings $157,000 $157,000 $157,000 $157,000 7- Depreciation $421,000 $0 $0 $0 |($264,000) $157,000 $157,000 $157,000 ($60,720) $36,110 $36,110 $36,110 ($203,280) $120,890 $120,890 $120,890 $421,000 8 Incremental earnings before tax 9 |- Тахes 10 Incremental earnings after tax 11 +Depreciation $0 $0 $0 $22,900 $26,200 ($85,000) $16,300 $19,600 12 Investment in inventory ($16,300) $198,120 $97,990 $94,690 $205,890 13 ОСF 14 15 Terminal Cash Flow 16 Salvage Value $58,000 $13,340 17 Tax 18 Salvage Value after tax $44,660 19 20 NPV Analysis ($437,300) $198,120 $97,990 $94,690 $250,550 21 Project Cash Flows $66,063.58 23 NPV 4

А C Е 2 1 0 4 2 Initial Investment 3 Cost of machine 421000 5 ОСCF 6 Pretax cost savings 157000 157000 157000 157000 7- Depreciation 8 Incremental earnings before tax -B3 0 0 0 -C6-C7 =D6-D7 =E6-E7 =F6-F7 ЕC8*23% D8*23% E8*23% F8*23% 9 |-Тахes 10 Incremental earnings after tax C8-C9 =D8- D9 -E8-E9 =F8- F9 11 +Depreciation 12 Investment in inventory F7 C7 =D7 -E7 -C12+3300 =-SUM(B12:E12) 16300 -B12+3300 D12+3300 - B10+ B11 - B12 13 OCF C10+C11-C12 -D10+D11-D12 E10+E11-E12 =F10+F11-F12 14 15 Terminal Cash Flow 16 Salvage Value 58000 =F16 23% 17 Tax 18 Salvage Value after tax -F16-F17 19 20 NPV Analysis ЕC13 =E13 21 Project Cash Flows 3-В3+B13 D13 F13+F18 22 =NPV(10 %, C21 : F21)+B21 23 NPV