A new project involves the purchase of a $9000 food processing machine. The mach

Question

A new project involves the purchase of a $9000 food processing machine. The machine would be depreciated on a straight-line basis over its 3-year useful life to a book value of $600. At the end of the life of the project (at the year 3 point), the machine will be sold for an estimated $600. The project will cause an increase in Sales of $5000 in each of years 1 through 3. It is also expected to enhance efficiencies and reduce operating expenses by $2000 in each of years 1 through 3. The project will require an increase in Accounts Receiveable of $1100 and an increase in Accounts Payable of $600 up front. The project's impact on these accounts is expected to disappear at project end (in year 3). The firm's marginal tax rate is 40%, and its WACC is 12%. The NPV of this project is $_________.

Explanation / Answer

Initial cash flow will be (9000 + 1100-600)= (9,500)

Cash flows in years 1-3 will be (5000+ 2000)*(1-.4) + 1,120= 5,320

(1,120 is tax shield on depreciation (9000-600)/3 *(.40)= 1,120)

Terminal cash flow will be 600+ 500=1,100

Discounting these at a rate of 12% we get an NPV of 4060.70.

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