Question

XYZ Company is considering the purchase of a new machine. The machine will cost $200,000 and is expected to last ten years. However, the machine will need maintenance costing $25,000 at the end of year three and at the end of year seven. In addition, purchasing this machine would require an immediate investment of $30,000 in working capital which would be released for investment elsewhere -at the end of the 10 years. The machine is expected to have a $14,000 salvage value at the end of ten years. The machine will be used to generate net, cash inflows of $50,000 per year in each of the 10 years. XYZ Company has a cost of capital of 9% and an income tax rate of 40%. For tax purposes, the machine would be classified in the MACRS 5-year class life and will be depreciated using the optional straight-line method. Calculate the net present value (NPV) of this machine. If your answer is negative, place minus sign in front of your answer with no spaces in between (e.g., -1234).

Answer 1

Answer

Computation of Net Present value
Year	After tax cash inflow	PVF @9%	Discounted cash inflow
1	37440	0.9174	34348.62
2	37440	0.8417	31512.50
3	22440	0.7722	17327.80
4	37440	0.7084	26523.44
5	37440	0.6499	24333.43
6	37440	0.5963	22324.25
7	22440	0.5470	12275.45
8	37440	0.5019	18789.87
9	37440	0.4604	17238.42
10	37440	0.4224	15815.06
Working capital	30000	0.4224	12672.32
Salvage value	14000	0.4224	5913.75
Total Inflow	239074.91
Less:Initial outflow	230000.00
Net Present Value	9074.91

WORKING NOTES

Calculation of deprectaion using Straight line method
Cost of asset	200000
Less:salvage value	14000
Life	10 years
Depreciation (200000-14000)/10
Depreciation (200000-14000)/10	18600

Calculation of After tax cash inflow
Years	1	2	3	4	5	6	7	8	9	10
cashflow	50000	50000	50000	50000	50000	50000	50000	50000	50000	50000
Less:Maintenance	0	0	25000	0	0	0	25000	0	0	0
Less:Depreciation	18600	18600	18600	18600	18600	18600	18600	18600	18600	18600
Cash inflow before tax	31400	31400	6400	31400	31400	31400	6400	31400	31400	31400
Less:Tax @ 40%	12560	12560	2560	12560	12560	12560	2560	12560	12560	12560
After tax cash inflow	18840	18840	3840	18840	18840	18840	3840	18840	18840	18840
Add back depreciation	18600	18600	18600	18600	18600	18600	18600	18600	18600	18600
Total After tax cash inflow	37440	37440	22440	37440	37440	37440	22440	37440	37440	37440

Calculation of initial outflow of investment
Cost of asset	200000
Add:Working capuatl requirement	30000
Total cash outflow in the biginning	230000