Ques 10.00 polnts Your company is contemplating replacing their current fleet of

Question

Ques 10.00 polnts Your company is contemplating replacing their current fleet of delivery vehicles with Nissan NV vans. You will be replacing 5 fully-depreciated vans, which you think you can sell for $4,700 apiece and which you could probably use for another 2 years if you chose not to replace them. The NV vans will cost $46,000 each in the configuration you want them, and can be depreciated using Expected yearly before-tax cash savings due to acquiring the new vans amounts to about $5,400 each. If your cost of capital is 8 percent and your firm faces a 34 percent tax rate, what will the cash flows for this project be? (Round your answers to the nearest dollar amount.) over a 5-year life. Year 2 References eBook& Resources Worksheet Difficulty 3 Advanced

Explanation / Answer

Cost of each new van=$46,000

As per 5 year MACRS, depreciation rates are 20%,32%, 19.2% and 11.52%- we considered only 4 years because the project duration is 4 years.

Depreciation in year 1=$(46,000*20%)=$9,200

Depreciation in year 2=$(46,000-9,200)*32%=$11,776

Depreciation in year 3=$(46,000-9,200-11,776)*19.2%=$4,804.61

Depreciation in year 4=$(46,000-9,200-11,776-4,804.61)*11.52%=$2,329.27

Yearly cash savings before tax=$5,400

Tax rate=34%

So post tax cash savings=$5,400*66%=$3,564

To post tax cash savings we will add tax shield on depreciation for each of the years to arrive at FCF.

We can sell the old vans for $4,700 each.

So post tax salvage of old van=$(4,700*66%)=$3,102.

This cash flow is expected to occur at present only.

The following are the FCF:

Note: To calculate DF, we used the power function in excel.

1 2 3 4 5=4*34% 6=2+3+5 7 8=6*7 Year Post-tax cash flow($) Post-tax salvage value($) Depreciation Tax shield on depn($) FCF DF @ 8% PV 0 0 3,102 0 0 3,102 1 3102 1 3,564 0 9,200 3128 9,794 0.9259 9068.52 2 3,564 0 11,776 4003.84 7,568 0.8573 6488.20 3 3,564 0 4804.61 1633.57 5,198 0.7938 4126.00 4 3,564 0 2,329.27 791.95 4,356 0.7350 3201.75

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