New project analysis You must evaluate a proposed spectrometer for the R&D depar
ID: 2724364 • Letter: N
Question
New project analysis
You must evaluate a proposed spectrometer for the R&D department. The base price is $220,000, and it would cost another $44,000 to modify the equipment for special use by the firm. The equipment falls into the MACRS 3-year class and would be sold after 3 years for $88,000. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require an $7,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $70,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 40%.
What is the initial investment outlay for the spectrometer, that is, what is the Year 0 project cash flow? Round your answer to the nearest cent.
What are the project's annual cash flows in Years 1, 2, and 3? Round your answers to the nearest cent.
in Year 1 $
in Year 2 $
in Year 3 $
Explanation / Answer
The initial investment outlay for the spectrometer is calculated as follows:
Initial Investment Outlay = 220,000 (Base Price) + 44,000 (Cost of Modification) + 7,000 (Increase in Working Capital) = $271,000
The annual cash flows are calculated with the use of following table:
Cash Flow Year 1 Year 2 Year 3 Annual Savings 70,000 70,000 70,000 Less Depreciation 87,120 (264,000*33%) 118,800 (264,000*45%) 39,600 (264,000*15%) Savings before Taxes -17,120 -48,800 30,400 Less Taxes -6,848 -19,520 12,160 Savings after Taxes -10,272 -29,280 18,240 Add Depreciation 87,120 118,800 39,600 Annual Cash Flow $76,848 $89,520 $57,840