Question 1

You have been asked by the president of MATRIX to evaluate the proposed acquisition of new equipment. The equipment’s basic price is $177,000, and shipping costs will be $3,500. It will cost another $26,600 to modify it for special use by your firm, and an additional $12,400 to install the equipment. The equipment falls in the MACRS 3-year class, and it will be sold after three years for $22,000. The equipment is expected to generate revenues of $173,000 per year with annual operating costs of $81,000. The firm’s tax rate is 30.0%. Your company uses the 3-year MACRS method to depreciate the machine and equipment, which are 33% 45%, 15% and 7%. The cost of capital is 11%.

What is the net investment/initial outlay for the project?

Question 2

ALMAND Corporation is considering an expansion project. To date they have spent $75,000 investigating the viability of the project and have decided to proceed. The proposed project will cost $450,000 in addition to the $75,000 that was spent on the feasibility study. The project will be depreciated over a 3 year MACRS class life. XYX would use the 3-year MACRS method to depreciate the machine and equipment which are 33% 45%, 15% and 7%.

If the project is undertaken the company will need to increase its inventories by $50,000, and its accounts payable will rise by $10,000. The company will realize an additional $600,000 in sales over each of the next four years. The company’s operating costs (not including depreciation) will increase by $400,000 a year. The company’s tax rate is 40%. At t = 3, the project’s economic life is complete, but it will have a salvage value (before-tax) of $50,000 after three years. The project’s WACC is 9.5%.

What is the project’s net present value (NPV)? What is the IRR? Should the project be accepted? Why or why not?

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