Case Scenario:
My firm is considering replacing old equipment with a new, more efficient model. The old equipment bought three years ago for $100,000, has a 5 - year MACRS life and can be sold for $50,000 or used for three more years when its resale value will be zero. The new equipment will cost $210,000, will have a three-year MACRS recovery period and will have a resale value of $20,000 after three years when the project will end. The new equipment will increase revenue before taxes by $25,000 and decrease costs before taxes by $50,000 per year. The firm's tax rate is 40%, and the discount rate is 16%.
a) Calculate the depreciation for the old and new equipment for each year of their depreciable life.
b) Determine the net cash proceeds from the disposal of the old and new equipment.
c) Determine Cash Flows (Cfs) for the initial investment, operating life, and terminal point. Prepare a time line showing the CFs.
d) What is the NPV of this replacement?
e) What is the resale value of the new equipment that would make you indifferent about the project?
f) What is the discount rate that would make you indifferent about the project?