Market Top Investors, Inc., is considering the purchase of a
$340,000 computer with an economic life...
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Market Top Investors, Inc., is considering the purchase of a$340,000 computer with an economic life of five years. The computerwill be fully depreciated over five years using the straight-linemethod, at which time it will be worth $54,000. The computer willreplace two office employees whose combined annual salaries are$85,000. The machine will also immediately lower the firm’srequired net working capital by $74,000. This amount of net workingcapital will need to be replaced once the machine is sold. Thecorporate tax rate is 24 percent. The appropriate discount rate is11 percent.
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Calculate the NPV of this project.
Is it worth it to buy this computer?
Answer & Explanation
Solved by verified expert
3.6 Ratings (420 Votes)
Time line
0
1
2
3
4
5
Cost of new machine
-340000
Initial working capital
74000
=Initial Investment outlay
-266000
100.00%
Savings
85000
85000
85000
85000
85000
-Depreciation
Cost of
equipment/no. of years
-68000
-68000
-68000
-68000
-68000
0
=Salvage Value
=Pretax cash flows
17000
17000
17000
17000
17000
-taxes
=(Pretax
cash flows)*(1-tax)
12920
12920
12920
12920
12920
+Depreciation
68000
68000
68000
68000
68000
=after tax operating cash flow
80920
80920
80920
80920
80920
reversal of working capital
-74000
+Proceeds from sale of equipment after tax
=selling
price* ( 1 -tax rate)
41040
+Tax shield on salvage book value
=Salvage
value * tax rate
0
=Terminal year after tax cash flows
-32960
Total Cash flow for the period
-266000
80920
80920
80920
80920
47960
Discount factor=
(1+discount rate)^corresponding period
1
1.11
1.2321
1.367631
1.5180704
1.6850582
Discounted CF=
Cashflow/discount factor
-266000
72900.9009
65676.487
59168.007
53304.51
28461.926
NPV=
Sum of discounted CF=
13511.83
Buy computer as NPV is positive
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