Wary Corporation is considering the purchase of a new machine for $180,000. If the new machine is purchased, Wary Corporation will sell existing equipment with a book value of $8,500 for total proceeds of $5,500. An additional $10,000 in working capital will be required for the new machine. Management predicts that the new machine can produce cash sales of $130,000 each year for the next 3 years. The firm uses the straight-line method of depreciation with mid-year convention for tax purposes. The company expects to dispose the new machine for $24,000 (before tax) at the end of year 3. The working capital investment will not be recovered at the end of year 3. Wary 's tax rate is 40%. Management requires a minimum of 12% return on all investments. Required: A. What is the net initial investment? B. What is the before tax gain or loss on disposal of the equipment at the end of year 3? Answer:______________________ gain / loss (circle one) C. What are the relevant after-tax cash flows for the years 1-3? (Round to the nearest dollar) D. What is the net present value of the investment? (Round to the nearest dollar) E. State your recommendation to the management of the company (Accept / Reject).
Net Present Value
Net present value is the most important concept of finance. It is used to evaluate the investment and financing decisions that involve cash flows occurring over multiple periods. The difference between the present value of cash inflow and cash outflow is termed as net present value (NPV). It is used for capital budgeting and investment planning. It is also used to compare similar investment alternatives.
Investment Decision
The term investment refers to allocating money with the intention of getting positive returns in the future period. For example, an asset would be acquired with the motive of generating income by selling the asset when there is a price increase.
Factors That Complicate Capital Investment Analysis
Capital investment analysis is a way of the budgeting process that companies and the government use to evaluate the profitability of the investment that has been done for the long term. This can include the evaluation of fixed assets such as machinery, equipment, etc.
Capital Budgeting
Capital budgeting is a decision-making process whereby long-term investments is evaluated and selected based on whether such investment is worth pursuing in future or not. It plays an important role in financial decision-making as it impacts the profitability of the business in the long term. The benefits of capital budgeting may be in the form of increased revenue or reduction in cost. The capital budgeting decisions include replacing or rebuilding of the fixed assets, addition of an asset. These long-term investment decisions involve a large number of funds and are irreversible because the market for the second-hand asset may be difficult to find and will have an effect over long-time spam. A right decision can yield favorable returns on the other hand a wrong decision may have an effect on the sustainability of the firm. Capital budgeting helps businesses to understand risks that are involved in undertaking capital investment. It also enables them to choose the option which generates the best return by applying the various capital budgeting techniques.
Wary Corporation is considering the purchase of a new machine for $180,000. If the new machine is purchased, Wary Corporation will sell existing equipment with a book value of $8,500 for total proceeds of $5,500. An additional $10,000 in working capital will be required for the new machine. Management predicts that the new machine can produce cash sales of $130,000 each year for the next 3 years. The firm uses the straight-line method of
Required:
A. What is the net initial investment?
B. What is the before tax gain or loss on disposal of the equipment at the end of year 3?
Answer:______________________ gain / loss (circle one)
C. What are the relevant after-tax cash flows for the years 1-3? (Round to the nearest dollar)
D. What is the
E. State your recommendation to the management of the company (Accept / Reject).
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