Problem 83 White Bakery plans to produce 15,000 cakes per year. The company is considering purchasing new cake decorating equipment. The new equipment would cost $30,000. This equipment qualifies for the use of MACRS (3-year asset class) and would be sold at the end of 3 years for an estimated $2,500. The company estimates that with the new equipment revenues will be $2.60 per cake and variable expenses will be $2.1 per cake. All revenues and expenses are paid in cash. The company does not have any fixed expenses. A 10% rate of return is required on all investments (cost of capital is 8%). White expects its tax rate to be 30% Year 1 3 4 5 Five-Year Assets 20.00% TTT 32.00 19.20 11.52 11.52 5.76 Three-Year Assets 33.33% 44.45 14.81 7.41 Seven-Year Assets Present Value of $1 Period 1% 2% 3% 4% 5% 0% 7% 8% 14.29% 24.49 17.49 12.49 8.93 8.92 8.93 4.46 Required: 1. Calculate the after-tax NPV of the investment in equipment. Should White invest in the equipment? Explain why. 0% 10% 11% 12% 13% 14% 10.900 0.980 0.971 0982 0.952 0943 0.935 0.025 0.917 0.909 0.901 0.893 0.885 0.877 2 0900 0.901 0943 0.925 0.907 0.890 0.873 0857 0.842 0.826 0.812 0.797 0.783 0.709 30971 0942 0915 0889 0.884 0.840 0818 0794 0.772 0.751 0.731 0.712 0.003 0.875 40.901 0.924 0888 0.855 0.823 0.792 0.783 0.735 0.708 0.083 0.000 0.630 0813 0502 5 0.951 0908 0883 0822 0.784 0.747 0713 0681 0.650 0.821 0593 0.567 0593 0587 0543 0519 60.942 0888 0.837 0790 0.740 0.705 0.000 0.740 0.705 0.000 0.030 0.500 0.504 0.535 0.507 0.535 0.507 0.400 0.450 7 0.933 0871 0813 0.750 0.711 0.005 0.623 0.583 0.547 0.513 0.482 0.452 0425 0.400 8 0.923 0.853 0.789 0731 0.877 0.827 0.582 0.540 0.502 0.487 0.434 0.404 0370 0351 90.914 0.837 0.750 0.703 0645 0.592 0544 0.500 0.400 0.424 0.391 0.301 0.333 0.308 10 0905 0820 0.744 0678 0614 0.558 0508 0463 0.422 0380 0352 0322 0295 0270 11 0.000 0.804 0.722 0.650 0.505 0.527 0475 0.429 0.388 0.350 0317 0.287 0281 0.237 12 0.887 0.788 0.701 0.625 0.557 0.497 0.444 0.397 0.358 0.319 0208 0257 0231 0.208 13 0.879 0.773 0.681 0.001 0.530 0.400 0.415 0.308 0.328 0.290 0258 0.229 0204 0.182 14 0.870 0.750 0.001 0577 0.505 0.442 0388 0340 0.290 0.203 0232 0205 0181 0.100 15 0801 0743 0642 0555 0.481 0.417 0362 0315 0275 0239 0209 0.183 0.160 0.140 16 0.853 0.728 0.623 0534 0.458 0.394 0.339 0292 0.252 0218 0.188 0.163 0.141 0.123 17 0844 0714 0605 0513 0.430 0.371 0317 0270 0231 0.198 0.170 0.148 0.125 0.108 18 0.830 0.700 0.587 0.404 0416 0.350 0.290 0.250 0.212 0.180 0.153 0.130 0.111 0.005 19 0828 0.688 0.570 0.475 0.398 0.331 0.277 0232 0.104 0.164 0.138 0.118 0.138 0.116 0.008 0.083 20 0820 0673 0554 0458 0377 0312 0258 0215 0.178 0149 0124 0.104 0087 0073 0.308 0.530 0.400 0.415 sent Value of Annuity of $1 2% 3% 4% 5% 7% 8% 0% 10% 11% 12% 13% 14% 0.000 0.900 0.971 0.002 0.952 0.943 0.035 0.920 0917 0909 0.001 0.893 0.885 0.877 1.970 1.942 1.913 1.800 1.859 1.833 1.808 1.783 1.750 1.730 1.713 1.090 1.000 1.047 2941 2804 2.829 2.775 2.723 2673 2824 2577 2531 2487 2444 2.402 2361 2322 3.902 3.808 3.717 3.830 3540 3.405 3.387 3312 3.240 3.170 3.102 3.037 2074 2014 4.853 4713 4.500 4.452 4.329 4212 4.100 3.993 3.800 3.791 3.000 3.605 3.517 3.433 5.795 5.601 5.417 5242 5.070 4.917 4707 4023 4480 4355 4231 4111 3.908 3.880 6.728 0.472 6230 6.002 5.700 5.582 5.389 5.200 5.033 4800 4712 4.564 4423 4288 7.652 7.325 7.000 6.733 6.403 6210 5.971 5.747 5.535 5335 5.148 4.968 4.790 4.630 8.500 8.162 7.786 7.435 7.108 6.802 6.515 6247 5.905 5.750 5.537 5.328 5.132 4940 9.471 8983 8.530 8111 7.722 7.360 7.024 6710 8.418 6145 5.889 5.050 5.428 5210 10 368 9.787 0253 8.760 8300 7.887 7.400 7.139 0.005 0.495 0207 5.938 5.087 5.453 11.255 10.575 9.954 9.345 8003 8.304 7.943 7.538 7.101 0814 6.492 0.104 5.918 5.000 5.M 12.134 11.348 10 635 9.900 9.304 8.853 8.358 7.904 7.487 7.103 0.750 0.424 6.122 5.842 13.004 12.108 11.290 10.563 0.000 9.295 8.745 8244 7.700 7.367 0.982 0.028 0.302 0.002 13 805 12 849 11.938 11.118 10 380 9.712 9.108 8.550 8.081 7.006 7.191 6811 8462 6.142 14.718 13.578 12.601 11.662 10.838 10.100 9.447 8.851 8.313 7.824 7.379 6.974 8.004 0.205 15.502 14.292 13.168 12 108 11.274 10.477 9.783 9.122 8.544 8.022 7.549 7.120 8.729 8.373 10.308 14.992 13.754 12650 11.000 10.828 10.0509 9.372 8.750 8.201 7.702 7.250 0.840 0.407 17.228 15.678 14.324 13.134 12.005 11.158 10.336 9.604 8.950 8.365 7830 7.366 0.938 6.550 18.048 16 351 14 877 13 500 12 482 11.470 10.504 9818 9.129 8514 7983 7.480 7.025 6823 15 146 0%

Step 1: Concept.

Step 2: Computation of tax savings on depreciation & net proceeds on sale of equipment at the end of year 3.

Step 3: Computation of cash inflows.

Step 4: Computation of Net present value .

Solution