The Campbell Company

Pages: 2 (277 words) Published: January 11, 2012
The Campbell Company is evaluating a proposal to buy a new milling machine. The base price is \$108,000, and shipping and installation costs would add another \$12,500.  The machine falls into the MACRS 3-year class, and it would be sold after 3 years for \$65,000.  The machine would require a \$5,500 increase in working capital (increased inventory less increased accounts payable).  There would be no effect on revenues, but pre-tax labor costs would decline by \$44,000 per year.  The marginal tax rate is 35 percent.

1. What is the net cost of the machine for capital budgeting purposes, that is, the Year 0 project cash flow?

Net Cost of the machine = \$108,000 + \$12,500 + \$5,500
= \$126,000

2. What are the net operating cash flows during Years 1, 2 and 3?

|  | Year | |  |0 |1 |2 |3 | |After-Tax Savings |  |\$28,600 |\$28,600 |\$28,600 | |Depreciation Tax Savings |  |\$13,918 |\$18,979 |\$6,326 | |Net Cash Flow |  |\$42,518 |\$47,579 |\$34,926 |

3. What is the terminal year cash flow?

|Salvage Value |\$65,000 |
|Tax on Salvage Value |\$19,798 |
|NWC Recovery |\$5,500 |
|Terminal Cash Flow |\$50,702 |

4. If the project’s cost of capital (WACC) is 12 percent, should the machine be purchased?

Yes, the machine should be purchased as the investment has a positive NPV of \$10,840 as per the following table.

|NPV Analysis | |Year...