You must evaluate a proposal to buy a new milling machine. Thebase price is $135,000 and shipping and installation costs would add another $8,000. Themachine falls into the MACRS 3-year class, and it would be sold after 3 years for $94,500.The applicable depreciation rates are 33%, 45%, 15%, and 7% as discussed in Appendix 12A.The machine would require a $5,000 increase in net operating working capital (increasedinventory less increased accounts payable). There would be no effect on revenues, but pretaxlabor costs would decline by $52,000 per year. The marginal tax rate is 35%, and the WACCis 8%. Also, the firm spent $4,500 last year investigating the feasibility of using the machine.a. How should the $4,500 spent last year be handled?b. What is the initial investment outlay for the machine for capital budgeting purposes,that is, what is the Year 0 project cash flow? c. What are the project’s annual cash flows during Years 1, 2, and 3?d. Should the machine be purchased? Explain your answer.
You must evaluate a proposal to buy a new milling machine. The
base price is $135,000 and shipping and installation costs would add another $8,000. The
machine falls into the MACRS 3-year class, and it would be sold after 3 years for $94,500.
The applicable
The machine would require a $5,000 increase in net operating working capital (increased
inventory less increased accounts payable). There would be no effect on revenues, but pretax
labor costs would decline by $52,000 per year. The marginal tax rate is 35%, and the WACC
is 8%. Also, the firm spent $4,500 last year investigating the feasibility of using the machine.
a. How should the $4,500 spent last year be handled?
b. What is the initial investment outlay for the machine for capital budgeting purposes,
that is, what is the Year 0 project cash flow?
c. What are the project’s annual cash flows during Years 1, 2, and 3?
d. Should the machine be purchased? Explain your answer.
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