Kinky Copies may buy a high-volume copier. The machine costs $210,000 and will b

Question

Kinky Copies may buy a high-volume copier. The machine costs $210,000 and will be depreciated straight-line over 5 years to a salvage value of $38,000. Kinky anticipates that the machine actually can be sold in 5 years for $49,000. The machine will save $38,000 a year in labor costs but will require an increase in working capital, mainly paper supplies, of $19,000. The firm’s marginal tax rate is 35%, and the discount rate is 7%. (Assume the net working capital will be recovered at the end of Year 5.) Calculate the NPV.

Kinky Copies may buy a high-volume copier. The machine costs $210,000 and will be depreciated straight-line over 5 years to a salvage value of $38,000. Kinky anticipates that the machine actually can be sold in 5 years for $49,000. The machine will save $38,000 a year in labor costs but will require an increase in working capital, mainly paper supplies, of $19,000. The firm’s marginal tax rate is 35%, and the discount rate is 7%. (Assume the net working capital will be recovered at the end of Year 5.) Calculate the NPV.

Explanation / Answer

Initial Investment = 210,000 + 19,000 = $229,000

Present value of cash flows:

A)present value of after tax savings in labor cost: 38000 (1-.35) * 4.10020

                                                                 = 24700*4.10020

                                                                = $ 101,274.94

b)Depreciation = (210000 - 38000) / 5

                     = 172000 / 5 =$34400

Present value of tax savings on depreciation = 34400 * .35 * 4.10020

                                                                     = $ 49366.41

c)Capital gain tax on sale of asset = (49000 - 38000) *.35

                                                  = 11000 * .35

                                                   = 3850

After tax sale value = 49000 - 3850

                           = 45150

Add:working capital = 19000

Total inflow in year5 = 64,150

present value of inflow in year 5 = 64150 * .71299

                                             = 45738.06

Total present value of cash inflows = 196,379 .41

NPV =Present value of cash infloWs -II

         = 196379.41 - 229000

        = (32,620.59)

**PVAF@ 7%,5 = 4.10020

**PVF@7%,5   = .71299

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