Question

A company is considering a 2-year project that requires paying $5,000,000 for a cutting-edge production equipment. This equipment falls into the 5-year MACRS class and will have a market value of half its original purchase price after 2 years. The project requires an initial investment in net working capital of $350,000. The project is estimated to generate $1,200,000 in annual operating cash flows. The company faces a 40% tax rate. The required rate of return on projects like this one is 10 percent.

Based on this information, answer the following questions. (Increase decimal places for any intermediate calculations, from the default 2 to 6 or higher. Only round your final answer to TWO decimal places: for example, 10,000.23.)

(a) The After-Tax Salvage Value of the production equipment at the end of the 2nd year equals # #1#2#3#4#5.

#1	$2,460,000
#2	$2,076,000
#3	$1,944,600
#4	$1,710,000
#5	$1,326,000

(b) The change in Net Working Capital at the end of the 2nd year equals # #1#2#3#4#5.

#1	$1,050,000
#2	$700,000
#3	$350,000
#4	$0
#5	–$350,000

2.5 points   

• Question 1 of 2
• Moving to another question will save this response.

Answer 1

solution 1
Calculation of after-tax salvage value
Cost of machine			$       5,000,000
Depreciation (20%+32%)=52%			$       2,600,000
WDV			$       2,400,000
Sale price			$       2,500,000
Profit/(Loss)			$          100,000
Tax-40%			$             40,000
Sale price after-tax			$       2,460,000
So option 1 is correct
solution 2
Net working capital invested in the business, in the beginning, gets recovered at the end of the project. Hence at year 2, initial working
capital of $ 350,000 will be recovered and change in net working capital will be shown as positive 350,000
hence option 3 is correct