Mars Inc. is considering the purchase of a new machine that costs $60,000. This

Question

Mars Inc. is considering the purchase of a new machine that costs $60,000. This machine will reduce manufacturing costs by $5,000 annually. Mars will use the MACRS accelerated method (shown below) to depreciate the machine, and it expects to sell the machine at the end of its 5-year life for $10,000. The firm expects to be able to reduce net operating working capital by $15,000 when the machine is installed, but the net working capital will return to the original level when the project is over (i.e., after 5 years). Mars's marginal tax rate is 40 percent, and it uses a 12 percent cost of capital to evaluate projects of this nature. Calculate the net cash flows of the project. (Cash outflows should be negative number.)

Explanation / Answer

Please find the answer as follows:

Initial Year Cash Flow = -60000 + 15000 = 45000

Annual Cash Savings = 5000*(1-.40) + (60000)/5*(.40) = 7800

NPV = - 45000 + 7800/(1+.12)^1 + 7800/(1+.12)^2 + 7800/(1+.12)^3 + 7800/(1+.12)^4 + 7800/(1+.12)^5 -15000/(1+.12)^5 + 10000*(1-.40)/(1+.12)^5 =$21,990

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