# Madison Manufacturing is considering a new machine that costs \$350,000 and would reduce pre-tax manufacturing costs by \$110,000 annually. Madison would use the 3-year MACRS method to depreciate the machine, and management thinks the machine would have a value of \$33,000 at the end of its 5-year operating life. The depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%. Working capital would increase by \$35,000 initially, but it would be recovered at the end of Year 5. Madison’s tax rate is 40%, and its WACC is 10%.a) Calculate the project’s NPV, IRR, MIRR, and payback.b) Management is unsure about the \$110,000 cost savings—it could be plus or minus 20%. What would be the NPVs under each extreme?c) Suppose the CFO wants you to do a scenario analysis with different values of the cost savings, the machine’s salvage value, and the working capital requirement. She gives you the following table: Scenario          Probability      Cost Savings     Salvage Value     Working CapitalWorst case            0.35              \$88,000               \$28,000                \$40,000Base case             0.35              110,000                 33,000                  35,000Best case              0.30              132,000                 38,000                  30,000       Calculate the project’s expected NPV, its standard deviation, and its coefficient of variation. Would you recommend that the project be accepted?

Question
100 views

Madison Manufacturing is considering a new machine that costs \$350,000 and would reduce pre-tax manufacturing costs by \$110,000 annually. Madison would use the 3-year MACRS method to depreciate the machine, and management thinks the machine would have a value of \$33,000 at the end of its 5-year operating life. The depreciation rates are 33.33%, 44.45%, 14.81%, and 7.41%. Working capital would increase by \$35,000 initially, but it would be recovered at the end of Year 5. Madison’s tax rate is 40%, and its WACC is 10%.

a) Calculate the project’s NPV, IRR, MIRR, and payback.

b) Management is unsure about the \$110,000 cost savings—it could be plus or minus 20%. What would be the NPVs under each extreme?

c) Suppose the CFO wants you to do a scenario analysis with different values of the cost savings, the machine’s salvage value, and the working capital requirement. She gives you the following table:

Scenario          Probability      Cost Savings     Salvage Value     Working Capital

Worst case            0.35              \$88,000               \$28,000                \$40,000

Base case             0.35              110,000                 33,000                  35,000

Best case              0.30              132,000                 38,000                  30,000

Calculate the project’s expected NPV, its standard deviation, and its coefficient of variation. Would you recommend that the project be accepted?

check_circle

Step 1

a.

Calculate the NPV, IRR, MIRR, and Payback period as follows:

Step 2

Workings:

Step 3

b.

Calculate the net present value if the pre-t...

### Want to see the full answer?

See Solution

#### Want to see this answer and more?

Solutions are written by subject experts who are available 24/7. Questions are typically answered within 1 hour.*

See Solution
*Response times may vary by subject and question.
Tagged in