Question

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $70,000, and it would cost another $17,500 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 $31,500. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require an $7,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $78,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 35%.

1. What is the initial investment outlay for the spectrometer, that is, what is the Year 0 project cash flow? Enter your answer as a positive value. Round your answer to the nearest cent.
   $  
2. 
   
3. What are the project's annual cash flows in Years 1, 2, and 3? Do not round intermediate calculations. Round your answers to the nearest cent.
   Year 1: $   
   Year 2: $   
   Year 3: $  

Answer 1

Initial Investment Outlay = Base price + modification cost + increase in working capital

= 70,000 + 17,500 + 7,000

= $94,500

c.Annual Cash flows

	1	2	3
Savings in cost	78,000	78,000	78,000
Less: Depreciation	28,875	39,375	13,125
Income before tax	49,125	38,625	64,875
Less: Tax	17,193.75	13,518.75	22,706.25
After Tax	31,931.25	25,106.25	42,168.75
Add: Depreciation (non-cash)	28,875	39,375	13,125
Cash flow	60,806.25	64,481.25	55,293.75
After Tax salvage value			22,618.75
Release of working capital			7,000
Net cash flow	60,806.25	64,481.25	84,912.5