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White Mountain Consulting is considering a project that would last for 2 years. The project would...

Question

White Mountain Consulting is considering a project that would last for 2 years. The project would...

White Mountain Consulting is considering a project that would last for 2 years. The project would involve an initial investment of 163,000 dollars for new equipment that would be sold for an expected price of 120,000 dollars at the end of the project in 2 years. The equipment would be depreciated to 19,000 dollars over 6 years using straight-line depreciation. In years 1 and 2, relevant annual revenue for the project is expected to be 163,000 dollars per year and relevant annual costs for the project are expected to be 40,000 dollars per year. The tax rate is 50 percent and the cost of capital for the project is 8.64 percent. What is the net present value of the project?

Answers

Net present value is calculated as present value of cash inflow less present value of cash outflow
Calculation of net present value of project is shown below
Year 0 1 2
Annual revenue $163,000 $163,000
Annual costs -$40,000 -$40,000
Depreciation -$19,000 -$19,000
Income before taxes $104,000 $104,000
Taxes @ 50% -$52,000 -$52,000
Net income $52,000 $52,000
Depreciation $19,000 $19,000
Operating cash flow $71,000 $71,000
Initial investment -$163,000
After tax value of equipment $122,500
Net cash flow -$163,000 $71,000 $193,500
Discount factor @ 8.64% 1 0.92047128 0.84726738
Present value -$163,000 $65,353 $163,946
Net present value $66,300
Thus, net present value of the project is $66,300.
Calculation of after tax value of equipment
Sale proceeds $120,000
Book value $125,000 163000-(19000*2)
Loss on sale of equipment $5,000
Tax benefit on loss $2,500 5000*50%
After tax sale price $122,500 120000+2500


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