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Starset Machine Shop is considering a 4-year project to improve its production efficiency
Starset Machine Shop is considering a 4-year project to improve its production efficiency. Buying a new machine press for $465,000 is estimated to result in $193,000 in annual pretax cost savings. The press falls in the 5-year MACRS class, and it will have a salvage value at the end of the project of $73,000. The press also requires an initial investment in spare parts inventory of $36,000, along with an additional $3,900 in inventory for each succeeding year of the project. The shop’s tax rate is 21 percent and its discount rate is 12 percent. (MACRS schedule)
Calculate the NPV of this project.
Expert Solution
Assuming that the working capital is recovered at the end of the project in year 4.
| NPV | $93,268.09 |
Workings
Operating cash flows
| OCF | MACRS 5 year | |||||
| Year | Cash flows | Depreciation | EBIT | Tax | PAT | OCF |
| 1 | 193000 | 93000 | 100000 | 21000 | 79000 | 172000 |
| 2 | 193000 | 148800 | 44200 | 9282 | 34918 | 183718 |
| 3 | 193000 | 89280 | 103720 | 21781.2 | 81938.8 | 171218.8 |
| 4 | 193000 | 53568 | 139432 | 29280.72 | 110151.28 | 163719.28 |
Salvage of the machine
| Salvage | |
| Purchase price | 465000 |
| Less: Depreciation | 384648 |
| Closing book value | 80352 |
| Selling price | 73000 |
| Gain/(loss) | -7352 |
| Tax/ Saving | 1543.92 |
| Net salvage | 74543.92 |
Net Cash flows
| Year | Initial cash flow | OCF | Working capital | Salvage | Net cash flows |
| 0 | -465000 | -36000 | -501000 | ||
| 1 | $172,000.00 | -3900 | 168100 | ||
| 2 | $183,718.00 | -3900 | 179818 | ||
| 3 | $171,218.80 | -3900 | 167318.8 | ||
| 4 | $163,719.28 | 47700 | 74543.92 | 285963.2 |
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