Your company plans to spend $1,750,000 cash to build a plant that will produce b
ID: 2793185 • Letter: Y
Question
Your company plans to spend $1,750,000 cash to build a plant that will produce benefits with a total present value of $3,000,000. Your company already owns the land on which it will build the plant. That land was purchased with cash several years ago for $300,000, which is the current book value of the land. The land could be sold for $1,275,000 after-tax today. What is the net present value of the proposed plant?
Opportunity costs are normally:
Incremental cash flows
The result of a company investing a non-cash asset in a capital budgeting project
Based on the market value (after tax) of a non-cash asset
All of the above
A new piece of specialty equipment costs $2,500,000 and will be depreciated to an expected salvage value of $400,000 on a straight-line basis over its 3-year life. Assuming a tax rate of 35%, what is its after-tax salvage value if the equipment is actually sold after 2 years for $1,250,000?
Explanation / Answer
It is given that the total present value of the plant is = $3,000,000
Also, the land could be sold for $1,275,000 after-tax today.
So, the net present value of the plant is= -$1,275,000+$3,000,000= $1,725,000
Opportunity cost refers to a benefit that a person could have received, but gave up, to take another course of action
So, the correct option is opportunity costs are normally incremental cash flows.
Given, the cost of specialty equipment=$2,500,000
Salvage value= $400,000
Life= 3 years
Depreciation per year= ($2,500,000-$400,000)/3= $700,000
So, value of the equipment after 2 years= $2,500,000- $1,400,000= $1,100,000
Sale price of equipment=$1,250,000
Profit before tax= $1,250,000-$1,100,000= $150,000
So, profit after tax or after-tax salvage value= $150,000(1-0.35)= $97,500
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