The purchase of a new press would enable li to reduce

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Unformatted text preview: ed in what follows. L Old press Originally purchased 3 years ago at an installed cost of $400,000, it is being depreciated under MACRS using a 5-year recovery period. The old press has a remaining economic life of 5 years. It can be sold today to net $420,000 before taxes; if it is retained, it can be sold to net $150,000 before taxes at the end of 5 years. Press A This highly automated press can be purchased for $830,000 and will require $40,000 in installation costs. It will be depreciated under MACRS using a 5-year recovery period. At the end of the 5 years, the machine could be sold to net $400,000 before taxes. If this machine is acquired, it is anticipated that the following current account changes would result. Cash $ 25,400 Accounts receivable 120,000 Inventories 20,000 Accounts payable 35,000 Press B This press is not as sophisticated as press A. It costs $640,000 and requires $20,000 in installation costs. It will be depreciated under MACRS using a 5-year recovery period. At the end of 5 years, it can be sold to net $330,000 before taxes. Acquisition of this press will have no effect on the firm’s net working capital investment. 464 Table 1 Profits Before Depreciation and Taxes for Lasting Impressions Company’s Presses Year Old press Press A Press B 1 $120,000 $250,000 $210,000 2 120,000 270,000 210,000 3 120,000 300,000 210,000 4 120,000 330,000 210,000 5 120,000 370,000 210,000 The firm estimates that its profits before depreciation and taxes with the old press and with press A or press B for each of the 5 years would be as shown in Table 1. The firm is subject to a 40% tax rate on both ordinary income and capital gains. The firm’s cost of capital, k, applicable to the proposed replacement is 14%. Required a. For each of the two proposed replacement presses, determine: (1) Initial investment. (2) Operating cash inflows. (Note: Be sure to consider the depreciation in year 6.) (3) Terminal cash flow. (Note: This is at the end of year 5.) b. Using the data developed in part a,...
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This document was uploaded on 01/19/2014.

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