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The Chen Company is considering the purchase of a new machine to replace an obsolete one. The machine being used for the operation has both a book value and a market valuse of zero; it is in good working order, however, and will last physically for at least another 10 years. The proposed replacement machine will perform the operation so much more efficiently that chens engineers estimate it will produce after tax cash flows (labor savings and depreciation) of $9,000 per year. The new machine will cost $40,000 delivered and installed, and its econominc life is estimated to be 10 years. It has zero salvage value. The firm's WACC is 10%, and its marginal tax rate is 35%. Should Chen buy the new machine?a. What is the net cost of the machine for capital budgeting purposes? (That is, what is the Year-0 net cash flow?)

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

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

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

Basic Finance, Finance

  • Category:- Basic Finance
  • Reference No.:- M947301

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