Question

PART III. Rimrock Construction Co. is purchasing a new piece of equipment for $34,000. The unit is expected to produce $21,000 for each of the next 4 years and will be sold at the end of that time for an expected salvage value of $4,000. Maintenance and expenses on the equipment are expected to be $2,000 for the fisrt year and to increase by $500 per year for each successive year of operation. Rimrock is purchasing the equipment by paying $14,000 down and financing the balance at an effective interest rate of 10 percent to be repaid in three equal end-of-year payments. According to the following schedule: Year Beginning Balance Accrued Interest 10% Accumulated | Total Payment Schedule Ending Balance 20,000 13,957.70 7,311.18 2,000 1,395.77 7,31.12 2,2000 15,353.47 8,042.30 $8,042.30 $8,042.30 $8,042.30 $20,000 $13,957.70 $7,311.18 ($0.00) The company will be using MACRS accelerated depreciation with a 3-year life for computing income taxes. It has an effective composite tax rate of 40% and requires an after-tax MARR of 10 percent. What is the net present value of the proposed purchase? You must show all calculations in order to received partial or full credit. * MACRS percentages (33.33, 44.45, 14.81, 7.41)

Answer 1

Cost of equipment		$34,000		Salvage value		$4,000
Revenue per year		$21,000		Expenses		$2,000
Down payment of equipment		$14,000		Increase in expensed per year		$500
Installment paid per year for finance		$8,042.30		Tax rate		40%
				MARR	10%
Depreciation
Year	1	2	3	4
Depreciation % as per MACRS	33.33%	44.45%	14.81%	7.41%
Actual depreciation	$11,332.20	$15,113.00	$5,035.40	$2,519.40
Cash flow
Items				Years
	0	1	2	3	4
Revenue	$0.00	$21,000.00	$21,000.00	$21,000.00	$21,000.00
Operating expense	$0.00	$2,000.00	$2,000.00	$2,000.00	$2,000.00
Operating income	$0.00	$19,000.00	$19,000.00	$19,000.00	$19,000.00	(revenue - operating expense)
Down payment for equipment	$14,000.00	$0.00	$0.00	$0.00	$0.00
Installment paid	$0.00	$8,042.30	$8,042.30	$8,042.30	$0.00
Income befor Depreciation and tax	-$14,000.00	$10,957.70	$10,957.70	$10,957.70	$19,000.00	(operating income - down payment - installments paid per year)
Depreciaion	$0.00	$11,332.20	$15,113.00	$5,035.40	$2,519.40
Earning befor tax	-$14,000.00	-$374.50	-$4,155.30	$5,922.30	$16,480.60	(income before depreciation and taxes - depreciation)
Tax at 40%	$0.00	$0.00	$0.00	$2,368.92	$6,592.24	(earning before tax * tax rate)
Net Cash flow	-$14,000.00	$10,957.70	$10,957.70	$8,588.78	$12,407.76	(Earning befor tax - tax)
Discount factor	0.1	0.1	0.1	0.1	0.1
Present value	-$14,000.00	$9,961.55	$9,055.95	$6,452.88	$8,474.67	(net cash flow/(1+discount factor)^number of years)
Net Present Value					$19,945.04	(sum of all present value)