Also need to know it its a profitable investment! The Greentree Lumber Company i

Question

Also need to know it its a profitable investment!

The Greentree Lumber Company is attempting to evaluate the profitability of adding another cutting line to its present sawmill operations. They would need to purchase two more acres of land for $25:000 (total). The equipment would cost $125,000 and could be depreciated over a five-year recovery period with the MACRS method. The new equipment is expected to increase gross revenue by $48,000 per year for five years, and operating expenses will be $16,000 annually for five years. It is expected that this cutting line will be closed down after five years. The firm's effective income tax rate is 49%. If the company's after-tax MARR is 3% per year, is this a profitable investment? Assume that land recovered at original cost of $25,000 at the end of five years. The market value of equipment is negligible at the end of year 5. Calculate the PW value for this investment. PW (3%) = (Round to the nearest dollar.)

Explanation / Answer

PW (NPV) = $2835.

It is a profitable investment as the PW (NPV) is positive.

Calculations are given below:

INITIAL CASH OUTFLOW: cost of land 25000 cost of equipment 125000 Net initial cash outflow at t=0 150000 YEARLY OPERATING CASH FLOWS: yr 1 yr 2 yr 3 yr 4 yr 5 increase in gross revenue 48000 48000 48000 48000 48000 increase in operating expenses 16000 16000 16000 16000 16000 32000 32000 32000 32000 32000 depreciation 25000 40000 24000 14400 14400 incremental profit before tax 7000 -8000 8000 17600 17600 tax @ 49% 3430 -3920 3920 8624 8624 profit after tax 3570 -4080 4080 8976 8976 add depreciation 25000 40000 24000 14400 14400 yearly operating cash flows 28570 35920 28080 23376 23376 pvif @ MARR of 3% 0.9709 0.9426 0.9151 0.8885 0.8626 pv 27738 33858 25697 20769 20164 cumulative of operating cash flows 128227 macrs depreciation % 20.00 32.00 19.20 11.52 11.52 ending book value-equipment 100000 60000 36000 21600 7200 TERMINAL CASH FLOWS: land sale 25000 equipment salvage value 0 tax shield on loss on equipment (7200*0.49) 3528 terminal cash inflow 28528 pvif @ 3% 0.8626 pv of terminal cash flows 24609 NPV: pv of operating cash inflows 128227 pv of terminal cash flows 24609 total pv of cash inflows 152835 initial cash outflow 150000 NPV 2835

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