Dog Up! Franks is looking at a new sausage system with an installed cost of $460

Question

Dog Up! Franks is looking at a new sausage system with an installed cost of $460,000. 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 $55,000. The sausage system will save the firm $155,000 per year in pretax operating costs, and the system requires an initial investment in net working capital of $29,000. If the tax rate is 21 percent and the discount rate is 10 percent, what is the NPV of this project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Explanation / Answer

Cost of Equipment = $460,000
Useful Life = 5 years

Annual Depreciation = Cost of Equipment / Useful Life
Annual Depreciation = $460,000 / 5
Annual Depreciation = $92,000

Initial investment in NWC = $29,000

Salvage Value = $55,000
After-tax Salvage Value = $55,000 * (1 - 0.21)
After-tax Salvage Value = $43,450

Pretax Annual Cost Saving = $155,000

Operating Cash Flows = Pretax Annual Cost Saving * (1 - tax) + tax * Annual Depreciation
Operating Cash Flows = $155,000 * (1 - 0.21) + 0.21 * $92,000
Operating Cash Flows = $141,770

NPV = -$460,000 - $29,000 + $141,770 * PVIFA(10%, 5) + $43,450 * PVIF(10%, 5) + $29,000 * PVIF(10%, 5)
NPV = -$460,000 - $29,000 + $141,770 * 3.7908 + $43,450 * 0.6209 + $29,000 * 0.6209
NPV = $93,405.92

So, net present value of this project is $93,405.92

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