Dog Up! Franks is looking at a new sausage system with an installed cost of $530
ID: 2777964 • Letter: D
Question
Dog Up! Franks is looking at a new sausage system with an installed cost of $530,000. This cost will be depreciated straight-line to zero over the project’s five-year life, at the end of which the sausage system can be scrapped for $80,000. The sausage system will save the firm $210,000 per year in pretax operating costs, and the system requires an initial investment in net working capital of $39,000. If the tax rate is 35 percent and the discount rate is 9 percent, what is the NPV of this project? (Do not round intermediate calculations and round your final answer to 2 decimal places, e.g., 32.16.)
Explanation / Answer
Annual depreciation = (cost of asset – salvage value)/ Life
= (530,000-0)/ 5
= 106,000
Calculation of cash flows
Year
0
1
2
3
4
5
Cost of asset
-530000
Cost saving
210000
210000
210000
210000
210000
Depreciation
-106000
-106000
-106000
-106000
-106000
EBIT
104000
104000
104000
104000
104000
Tax 35%
-36400
-36400
-36400
-36400
-36400
Net Income
67600
67600
67600
67600
67600
Depreciation
106000
106000
106000
106000
106000
Working capital
-39000
39000
Salvage value
80000
tax on salvage value
-28000
Cash flow
-569000
173600
173600
173600
173600
264600
Calculation of Net Present Value
Year
Cash flow
PV factor 9%
PV
0
-569000
1.000
-569000
1
173600
0.917
159266.055
2
173600
0.842
146115.647
3
173600
0.772
134051.052
4
173600
0.708
122982.617
5
264600
0.650
171971.845
NPV
$165,387.22
hence, NPV is 165,387.22.
Year
0
1
2
3
4
5
Cost of asset
-530000
Cost saving
210000
210000
210000
210000
210000
Depreciation
-106000
-106000
-106000
-106000
-106000
EBIT
104000
104000
104000
104000
104000
Tax 35%
-36400
-36400
-36400
-36400
-36400
Net Income
67600
67600
67600
67600
67600
Depreciation
106000
106000
106000
106000
106000
Working capital
-39000
39000
Salvage value
80000
tax on salvage value
-28000
Cash flow
-569000
173600
173600
173600
173600
264600
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