ABC is considering the purchase of new equipment for $109,000. The equipment is
ID: 2571347 • Letter: A
Question
ABC is considering the purchase of new equipment for $109,000. The equipment is to be depreciated using the 5 year MACRS schedule, which is shown below. ABC plans to sell the equipment at the end of four years and projects that the equipment's market value at that time will be $21,000. The equipment is expected to generate an operating profit before taxes and depreciation of $41,000. Net working capital of $6,000 will be needed when the equipment is purchased, but will be recovered after the equipment is sold. The company's tax rate is 40 percent and its cost of capital for this project is 14 percent. What is the net present value of this project?
ABC is considering the purchase of new equipment for $109,000. The equipment is to be depreciated using the 5 year MACRS schedule, which is shown below. ABC plans to sell the equipment at the end of four years and projects that the equipment's market value at that time will be $21,000. The equipment is expected to generate an operating profit before taxes and depreciation of $41,000. Net working capital of $6,000 will be needed when the equipment is purchased, but will be recovered after the equipment is sold. The company's tax rate is 40 percent and its cost of capital for this project is 14 percent. What is the net present value of this project? MACRS Schedules For Yearly Depreciation Year 3Year 5 Year 10 Year 10% 33% 45% 15% 7% 20% 32% 19% 18% 14% 9% 7% 7% 7% 7% 6% 3% 11% 6% 10 Total 100% 100% 100%Explanation / Answer
CALCULATION OF DEPRECIATION PER YEAR AS PER MACRS SCHEDULE Purchase Price = 109000 Depreciation - Year 1 = 20% $ 21,800.00 Depreciation - Year 2 = 32% $ 34,880.00 Depreciation - Year 3 = 19% $ 20,710.00 Depreciation - Year 4 = 12% $ 13,080.00 Book Value at the end of 4th Year = $ 18,530.00 CALCULATION OF PROFIT AND LOSS ON SALE OF EQUIPMENT Sale Value of the Equipmet = 21,000 Less : Book Value at the end of 4th year = 18,530 Profit on sale = 2,470 CALCULATION OF CASH INFLOW AFTER TAXE AND BEFORE DEPRECIATION Year Particulars Net Profit Depreciation Net Profit After Tax Tax @ 40% Net Profit After Taxes Add : Depreciation Cash Inflow 1 Net Profit $ 41,000.00 $ 21,800.00 $ 19,200.00 $ 7,680.00 $ 11,520.00 $ 21,800.00 $ 33,320.00 2 Net Profit $ 41,000.00 $ 34,880.00 $ 6,120.00 $ 2,448.00 $ 3,672.00 $ 34,880.00 $ 38,552.00 3 Net Profit $ 41,000.00 $ 20,710.00 $ 20,290.00 $ 8,116.00 $ 12,174.00 $ 20,710.00 $ 32,884.00 4 Net Profit $ 41,000.00 $ 13,080.00 $ 27,920.00 $ 11,168.00 $ 16,752.00 $ 13,080.00 $ 29,832.00 4 Tax on Gain of Sale of Equipment( Outflow) $ 2,470.00 0 $ 2,470.00 $ 988.00 0 $ -988.00 4 Working Capital $ 6,000.00 4 Sale of Equipmet $ 21,000.00 CALCULATION OF THE NET PRESENT VALUE OF THE PROJECT Year Particulars Cash Outflow/ Inflow PVF @ 14% Present Value 0 Equipment + Working Capital = $ -1,15,000.00 $ 1.00 $ -1,15,000.00 1 Cash Inflow $ 33,320.00 $ 0.88 $ 29,228.07 2 Cash Inflow $ 38,552.00 $ 0.77 $ 29,664.51 3 Cash Inflow $ 32,884.00 $ 0.67 $ 22,195.76 4 Cash Inflow (Profit + Net Gain + WC- Tax on Gain on Sale of Equipment) $ 55,844.00 $ 0.59 $ 33,064.13 Total of Present Value = $ -847.52 Answer = Net Present Value of the Project = - $ 847.52
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