Nuff Folding Box Company, Inc. is considering purchasing a new gluing machine. T
ID: 2651242 • Letter: N
Question
Nuff Folding Box Company, Inc. is considering purchasing a new gluing machine. The gluing machine costs $50,000 and requires installation costs of $2,500. This outlay would be partially offset by the sale of an existing gluer. The existing gluer originally cost $10,000 and is four years old. It is being depreciated under MACRS using a five-year recovery schedule and can currently be sold for $15,000. The existing gluer has a remaining useful life of five years. If held until year 5, the existing machine's market value would be zero. Over its five-year life, the new machine should reduce operating costs (excluding depreciation) by $17,000 per year. Training costs of employees who will operate the new machine will be a one-time cost of $5,000, which should be included in the initial outlay. The new machine will be depreciated under MACRS using a five-year recovery period. The firm has a 12 percent cost of capital and a 40 percent tax on ordinary income and capital gains.
A) What is the tax effect of the sale of the existing asset?
B) What is the initial outlay for this project?
$49,500
C) What are the project’s annul operation cash inflows? .
D) What is the project’s terminal cash flow ?
E) What is the payback period for the project ?
Explanation / Answer
A) What is the tax effect of the sale of the existing asset?
Book Value of existing asset = 10000*(11.52+5.76)%
Book Value of existing asset = $ 1728
Sale Value = 15000
Tax effect of the sale of the existing asset = (15000 - 1728)*40%
Tax effect of the sale of the existing asset = $ 5308.80
B) What is the initial outlay for this project?
initial outlay for this project = machine costs + installation costs - Sale value of existing asset + Training costs
initial outlay for this project = 50000 + 2500 - 15000+ 5000
initial outlay for this project = $ 42500
C) What are the project’s annul operation cash inflows? .
Project’s operation cash inflows in Year 1 = 17000*(1-40%) + 52500*20%*40% - 5308.80
Project’s operation cash inflows in Year 1 = $ 9091.20
Project’s operation cash inflows in Year 2 = 17000*(1-40%) + 52500*32%*40%
Project’s operation cash inflows in Year 2= $ 16920
Project’s operation cash inflows in Year 3 = 17000*(1-40%) + 52500*19.2%*40%
Project’s operation cash inflows in Year 3 = $ 14232
Project’s operation cash inflows in Year 4 = 17000*(1-40%) + 52500*11.52%*40%
Project’s operation cash inflows in Year 4 = $ 12619.20
Project’s operation cash inflows in Year 5 = 17000*(1-40%) + 52500*11.52%
Project’s operation cash inflows in Year 5 = $ 12619.20
D) What is the project’s terminal cash flow ?
Assuming Salavage value is zero
project’s terminal cash flow = Tax saving on machine
project’s terminal cash flow = 52500*5.76%*40%
project’s terminal cash flow = 1209.60
E) What is the payback period for the project ?
payback period for the project = 3 + 2256.80/12619.20
payback period for the project = 3.18 Years
Year Cash flow Cumulative 0 -42500 -42500 1 9,091.20 (33,408.80) 2 16,920.00 (16,488.80) 3 14,232.00 (2,256.80) 4 12,619.20 10,362.40 5 12,619.20 22,981.60 5 1209.6 24,191.20Related Questions
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