Edward\'s Manufactured Homes purchased some machinery 2 years ago for $49,000. T

Question

Edward's Manufactured Homes purchased some machinery 2 years ago for $49,000. The assets are classified as 5-year property for MACRS. The company is replacing this machinery today with newer machines that utilize the latest in technology. The old machines are being sold for $16,000 to a foreign firm for use in its production facility in South America. What is the aftertax salvage value from this sale if the tax rate is 34 percent?

A project will produce an operating cash flow of $14,600 a year for 8 years. The initial fixed asset investment in the project will be $48,900. The net aftertax salvage value is estimated at $11,000 and will be received during the last year of the project's life. What is the net present value of the project if the required rate of return is 12 percent?

Explanation / Answer

Part A

In order to find the after tax salvage value we need to find the book value of asset at the end of 2 years and tax on sale.

Book value = cost of machinery ( 1- macrs rate for 1 year - macrs rate for 2 year)

                   = $49,000 ( 1 - .20 - .32) = $49,000 * 0.48 = $23,520

Therefore our book value = $23,520

Tax on sale can be calculated by the following formula

Tax on sale = (Selling price of machinery - book value ) tax rate

                   = ($16,000 - $23,520) *0.34 = -$7,520*.034 = -$2,556.8

Tax on sale = -$2,556.8 which is benificial as the tax on sale is negative

Therefore after tax salvage value = $16,000 + $2,556. 8 = $18,556.8

Part B -

The formula to calculate the NPV =

Initial cost + Cash flow per year ( 1- (1/1+r)n ) / r + salvage value / (1+r)n

= $48,900 + $14,600 ( 1 - (1 / (1+.12)8 )) / .12 + $11,000 / (1+.12)8

= $28,070.26

Therefore NPV = $28,070.26

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