Question

e Egg is considering the purchase of a new distributed network computer system to help handle its warehouse inventories. The system costs $55,000 to purchase and install and $32,000 to operate each year. The system is estimated to be useful for 4 years. Management expects the new system to reduce the cost of managing inventories by $60,000 per year. The firm's cost of capital (discount rate) is 10%. Required: 1. What is the net present value (NPV) of the proposed investment under each of the following independent situations? (Use the appropriate present value factors from Appendix C, TABLE 1 and Appendix C, TABLE 2.) 1a. The firm is not yet profitable and therefore pays no income taxes. 1b. The firm is in the 22% income tax bracket and uses straight-line (SLN) depreciation with no salvage value. Assume MACRS rules do not apply. 1c. The firm is in the 22% income tax bracket and uses double-declining-balance (DDB) depreciation with no salvage value. Given a four-year life, the DDB depreciation rate is 50% (i.e., 2 x 25%). In year four, record depreciation expense as the net book value (NBV) of the asset at the start of the year. 2. What is the internal rate of return (IRR) of the proposed investment for situations in requirement 1, parts (a) through (c)? Use the IRR built-in function in Excel to compute the IRR. Complete this question by entering your answers in the tabs below. Req 1A Req 1B Req 1C Reg 2

Answer 1

C20 for : * CD year E B F G H I K L M No req 1A 11111# annual cash inflow discount factor present value of cash inflows initial cash outflow net present value (NPV) $ 28,000 3.170 $ 88,760 $ 55,000 $ 33,760 after tax cash flows year 0 -$ 55,000 year 1 $ 28,000 year 2 $ 28,000 year 3 $ 28,000 year 4 $ 28,000 estimated IRR 36.05% reg 1B 2B annual cash inflow annual straight line depreciation annual taxable income annual income taxes annual net income annual straight line depreciation after tax net cash inflow discount factor present value of cash inflows initial cash outflow net present value (NPV) $ 28,000 $ 13,750 $ 14,250 $ 3,135 S 11,115 $ 13,750 $ 24,865 3.170 $ 78,822 $ 55,000 $ 23,822 after tax cash flows year 0 -$ 55,000 year 1 $ 24,865 year 2 $ 24,865 year 3 $ 24,865 year 4 $ 24,865 estimated IRR 28.76% req 1C year DDB depreciation expense taxable income income after tax net taxes cash inflow discount factor present values after tax cash flows o pre tax cash inflows |-$ 55,000 $ 28,000 $ 28,000 $ 28,000 $ 28,000 2 $ 27,500 $ 13,750 $6,875 $6,875 $500 $ 110 $ 14,250 $3,135 $ 21,125 -$ 4,648 $ 21,125 -$ 4,648 $ 55,000 1.000-$ 55,000 $ 27,890 0.909 $ 25,352 $ 24,865 0.826 $ 20,538 $ 23,353 0.751 $ 17,538 $ 23,353 0.683 $ 15,950 net present value (NPV) = $ 24,378 year 0 year 1 year 2 year 3 year 4 estimated IRR $ 55,000 $ 27,890 $ 24,865 $ 23,353 $ 23,353 29.97% 4

for formulas and calculations, refer to the image below -

c20 X for year A B C D F G T K L M N O req 1A annual cash inflow discount factor present value of cash inflows initial cash outflow net present value (NPV) 28000 =ROUND(-PV(10%,4,1), 3 =H2*H3 -55000 EH4+H5 after tax cash flows year o =H5 year 1 =SH$2 year 2 =SH$2 year 3 =SH$2 year 4 =SH$2 estimated IRR EIRR(N3:N7) reg 1B ! GEWEES OWN !! 2B ! ! annual cash inflow annual straight line depreciation annual taxable income annual income taxes annual net income annual straight line depreciation after tax net cash inflow discount factor present value of cash inflows initial cash outflow net present value (NPV) 28000 =-55000/4 =H8+H9 --H10*0.22 =H10+H11 --H9 =H12+H13 =ROUND(-PV(10%,4,1), =H14*H15 -55000 =H16+H17 after tax cash flows year 0 =H17 year 1 =SH$14 year 2 =SH$14 =$H$14 year 4 =$H$14 estimated IRREIRR(N11:N15) + II year 3 * req 10 year pre tax cash inflows DDB depreciation expense taxable income income taxes after tax net cash inflow discount factor present values after tax cash flows NEMENNN -55000 =D21 =ROUND(-PV(10%,C21,0,1), 3) =H21*121 =60000-32000 =-55000*50% =D22+E22 =-F22*0.22 =F22+G22-E22 =ROUND(-PV(10%,C22,0,1), 3) =H22*122 =60000-32000 =-55000-27500)*50% =D23+E23 =-F23*0.22 =F23+G23-E23 =ROUND(-PV(10%, C23,0,1),3) =H23*123 |=60000-32000 |=-(55000-27500-13750)*50% =D24+24 =-F24*0.22|=F24+G24-E24 =ROUND(-PV(10%, C24,0,1), 3) =H24*124 =60000-32000 |=-(55000-27500-13750-6875) 1=D25+E25|--F25*0.22|=F25+G25-E25 =ROUND(-PV(10%, C25,0,1), 3) =H25*125 net present value (NPV) = =SUM(J21:25) year 0 =H21 year 1 =H22 year 2 =H23 year 3 =H24 year 4 =H25 estimated IRR =IRR(N21:N25)

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