You have been asked by the president of your company to evaluate the proposed acquisition of a new special-purpose truck.
The truck’s basic price is $50,000, and it will cost another $10,000 to modify it for special use by your firm, and is purchased in year zero.
The truck falls into the MACRS five-year class (MACRS rates are: 20%, 32%, 19%, 12%, 11%, 6%), and will be sold at the end of year two for $40,000. Depreciation starts in year 1.
Use of the truck will require an increase in net working capital (spare parts inventory) of $2,000 in year zero. When you sell the truck, you will no longer need the spare parts, so the inventory level can drop at the end of year 2.
The truck will have no effect on revenues, but it is expected to save the firm $20,000 per year in before-tax operating costs, mainly labor.
The firm’s marginal tax rate is 40%.
The firm’s capital structure is 50% debt & 50% equity. They calculate their WACC to be 9.0% using the following inputs: before-tax cost of debt-10%, cost of equity-12%, expected market return-12%, risk-free rate-4%, beta-1.0.
a. What is the cost of the truck that will be depreciated?
b. What is the cash flow in year 0?
c. What is the operating cash flow in Year 1?
d. What is the operating cash flow in Year 2?
e. What is the gain or loss on the sale of the truck, before taxes?
f. What is the NPV of this project?
g. What is the IRR of this project?