1. You have been asked by the president of your company to evaluate the proposed acquisition of a spectrometer for the firm’s R&D department. The equipment’s base price is $140,000, and it would cost another $30,000 to modify it for special use by your firm. The spectrometer, which falls into the MACRS 3-year class (33%, 45%, 15%, 7%), would be sold after 3 years for an expected salvage value of $60,000. Use of the equipment would require an increase in spare parts inventory of $8,000. The spectrometer is expected to save the firm $80,000 per year in before-tax operating costs (i.e. effectively, there is an $80,000 cash inflow each year, excluding depreciation and tax effects). The firm’s marginal tax rate is 40%, and the cost of capital is 12%. Evaluate this decision using the NPV decision criteria. Should the firm buy the spectrometer?
a) Yes, the project yields an NPV of $23,684.31
b) Yes, the project yields an NPV of $25,390.45
c) Yes, the project yields an NPV of $24,599.59
d) No, the project yields an NPV of ($2,352.28)
2. Tom is analyzing a project and has determined that the initial cost will be $1,350,000 and the required rate of return needs to be 10 percent. The project has a 60 percent chance of success and a 40 percent chance of failure. If the project fails, it will generate an annual after-tax cash flow of $375,000. If the project succeeds, the annual after-tax cash flow will be $550,000. He has further determined that if the project fails, he will shut it down after the first year and lose all of his original investment. If however, the project is a success, he can expand it with no additional investment and increase the after-tax cash flow to $595,000 a year for Years 2-5. At the end of Year 5, the project would be terminated and have no salvage value. What is the expected net present value of this project at Time 0?
$128,812.23
$104,284.60
$142,210.77
$115,129.06
$133,465.30