Question

Cori's Dog House is considering the installation of a new computerized pressure cooker for hot dogs. The cooker will increase sales by $5,800 per year and will cut annual operating costs by $14,300. The system will cost $49,800 to purchase and install. This system is expected to have a 7-year life and will be depreciated to zero using straight-line depreciation and have no salvage value. The tax rate is 40 percent and the required return is 12.7 percent. What is the NPV of purchasing the pressure cooker?

Answer 1

Time line		0	1	2	3	4	5	6	7
Cost of new machine		-49800
=Initial Investment outlay		-49800
										100.00%
Profits			20100	20100	20100	20100	20100	20100	20100
-Depreciation	Cost of equipment/no. of years		-7114.28571	-7114.28571	-7114.28571	-7114.286	-7114.286	-7114.286	-7114.28571	-7.28E-12	=Salvage Value
=Pretax cash flows			12985.71429	12985.71429	12985.71429	12985.714	12985.714	12985.714	12985.71429
-taxes	=(Pretax cash flows)*(1-tax)		7791.428571	7791.428571	7791.428571	7791.4286	7791.4286	7791.4286	7791.428571
+Depreciation			7114.285714	7114.285714	7114.285714	7114.2857	7114.2857	7114.2857	7114.285714
=after tax operating cash flow			14905.71	14905.71	14905.71	14905.71	14905.71	14905.71	14905.71
+Tax shield on salvage book value	=Salvage value * tax rate								-2.9104E-12
=Terminal year after tax cash flows									0
Total Cash flow for the period		-49800	14905.71	14905.71	14905.71	14905.71	14905.71	14905.71	14905.71
Discount factor=	(1+discount rate)^corresponding period	1	1.127	1.270129	1.431435383	1.6132277	1.8181076	2.0490073	2.309231177
Discounted CF=	Cashflow/discount factor	-49800	13226.0071	11735.58749	10413.12111	9239.6816	8198.4752	7274.6009	6454.836635
NPV=	Sum of discounted CF=	16742.31