Let it snow is considering a new investment. Planning to buy a new snow maker to

Question

Let it snow is considering a new investment. Planning to buy a new snow maker to replace the existing machine that was bought 5 years ago. New machine will cost 25 million and has expected life of 10 years. annual depreciation rate for this machinery is 2.5 million. old machinery had an original cost of 15 million and was depreciated on a straight line basis. original expected life of the old equipment was 15 years. The new machine will result in annual cost savings of 7 million. Old machiney can now be sold at 5 million. Assume a 40% tax rate, WACC of 18.52% and cost of dect is 9%. would you replace the machinery?

Explanation / Answer

Amount in Million Year 0 1 2 3 4 5 6 7 8 9 10 NPV New Machine cost -25 old M/c Sale 5 Tax Saving due to sale of old M/C 2 BTCF 7 7 7 7 7 7 7 7 7 7 Depn -2.5 -2.5 -2.5 -2.5 -2.5 -2.5 -2.5 -2.5 -2.5 -2.5 EBT 4.5 4.5 4.5 4.5 4.5 4.5 4.5 4.5 4.5 4.5 Tax 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8 PAT 2.7 2.7 2.7 2.7 2.7 2.7 2.7 2.7 2.7 2.7 Depn 2.5 2.5 2.5 2.5 2.5 2.5 2.5 2.5 2.5 2.5 ATCF 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 FCF -18 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2 Disc. Fact 18.52% 1 0.843739 0.711896 0.600655 0.506796 0.427604 0.360786 0.30441 0.256842 0.216708 0.182845 Disc. FCF       -18.00           4.39           3.70           3.12           2.64           2.22           1.88           1.58           1.34           1.13           0.95           4.94 Since NPV>0 at WACC discounted rate, so project is accpetable Tax saving due to loss on sale of old m/c cost of Old Machine 15 Less: Depn 1*5 5 Book Value 10 Sales 5 Loss on sale 5 Tax saving 2

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