Question : You have been asked by the firm to evaluate the acquisition of a special-purpose machine. The machine costs $600,000. The machine will be depreciated to a zero-book value on a straight-line basis over 4 years.
It will be sold at the end of year 4 for $200,000. The machine will increase initial net working capital by $20,000 for parts (none of this will be recovered).
The machine will generate an additional $100,000 per year in sales (due to faster production) and will save the firm $250,000 per year in costs (enhanced efficiency). Tax rate is 40%. Cost of capital is 12%.
a. Calculate the net present value and any ONE of the following other measures: internal rate of return, payback or profitability index.
b. Use NPV to decide whether to acquire the machine. Explain your decision.
c. Now suppose the machine falls into the 3-year MACRS class. All other assumptions are the same.
MACRS depreciation rates in years 1, 2, 3 and 4 are 33.33%, 44.45%, 14.81% and 7.41% respectively. Find the NPV and compare it to the original NPV.