What is the initial cash flow?
XYZ company has asked you to evaluate the proposed acquisition of a new machine. The machine’s price is $50,000, and it will be depreciated using straight-line over a 10 year basis even though they expect to keep for only 3 years.
Purchase of the machine would require an increase in net working capital of $2,000 at the start of the project and this will be returned at the end of the project. The machine would increase the firm’s before-tax revenues by $57,000 per year, but would also increase before-tax operating costs by $20,000 per year. The machine is expected to be used for 3 years and then be sold for $40,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 10 percent.
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