The general manager of a New Mexico mining company has a chance to purchase a new drill

Question:

The general manager of a New Mexico mining company has a chance to purchase a new drill at a total cost of $300,000. The recovery period is 5 years. Additional annual pretax cash inflow from operations is $75,000, the economic life of the drill is 5 years, there is no salvage value, the income tax rate is 45%, and the after-tax required rate of return is 10%.

1. Compute the NPV, assuming MACRS depreciation for tax purposes. Should the company acquire the drill?

2. Suppose the economic life of the drill is 6 years, which means that there will be a $75,000 cash inflow from operations in the sixth year. The recovery period is still 5 years. Should the company acquire the drill? Show computations.

Salvage Value
Salvage value is the estimated book value of an asset after depreciation is complete, based on what a company expects to receive in exchange for the asset at the end of its useful life. As such, an asset’s estimated salvage value is an important...