The Campbell Company is considering adding a robotic paint sprayer to its production line. The sprayer's base price $1,080,000, and it would cost another $22,500 to install it. The machine falls into MACRS 3-year class, and it would be sold after 3 years for $605,000. The MACRS rates for 3 years are 0.333, 0.4445, 0.1481. The machine wold require an increase in the net working capital (inventory) of $15,500. The sprayer would no change revenues, but is expected to save the firm $380,000 per year in before-tax operating costs, mainly labor. Campbell's marginal tax rate is 35%.a. What is the Year 0 net cash flow?b. What are the net operating cash flows in Years 1, 2, 3?c. What is the additional Year 3-cash flow (i. e. after tax salvage and the return of working capital)? d. If the project's cost of capital is 12%, should the machine be purchased?

a. What is the Year 0 net cash flow?

b. What are the net operating cash flows in Years 1, 2, 3?

c. What is the additional Year 3-cash flow (i.e. after tax salvage and the return of working capital)?

d. If the project's cost of capital is 12%, should the machine be purchased?

Explanation:

book value of the robotic sprayer = $1,080,000 + $22,500 = $1,102,500

useful life 3 years, salvage value $605,000

MACRS 3-year class:

0.333 x $1,102,500 = $367,132.50

0.4445 x $1,102,500 = $490,061.25

0.1481 x $1,102,500 = $163,280.25

requires an additional $15,500 investment in inventory

saves $380,000 per year

marginal tax rate 35%

net cash flow year 1 = [net savings x (1 - tax rate)] + (depreciation expense x tax rate) = ($380,000 x 65%) + ($367,132.50 x 35%) = $247,000 + $128,496.38 = $375,496.38

net cash flow year 2 = [net savings x (1 - tax rate)] + (depreciation expense x tax rate) = ($380,000 x 65%) + ($490,061.25 x 35%) = $247,000 + $171,521.44 = $418,521.44

net cash flow year 3 = [net savings x (1 - tax rate)] + (depreciation expense x tax rate) = ($380,000 x 65%) + ($163,280.25 x 35%) = $247,000 + $57,148.09 = $304,148.09

terminal cash flow = [sales price - (purchase cost - accumulated depreciation)] x (1 - tax rate) + recovered net working capital = [$605,000 - ($1,102,500 - $1,020,474)] x 0.65 + $15,500 = $355,433.10  

using an excel spreadsheet I calculated the NPV:

Year 0 -$1,118,000

Year 1 $375,496.38

Year 2 $418,521.44

Year 3 $304,148.09 + $355,433.10 = $659,581.19

discount rate 12%

NPV = $20,384.22

answer; specific performance;