Foster Company wants to buy a numerically controlled (NC) machine to be used in producing specially machined

Question:

Foster Company wants to buy a numerically controlled (NC) machine to be used in producing specially machined parts for manufacturers of trenching machines (to replace an existing manual system). The outlay required is $3,500,000. The NC equipment will last five years with no expected salvage value. The expected incremental after-tax cash flows (cash flows of the NC equipment less cash flows of the old equipment) associated with the project follow:

Foster has a cost of capital equal to 10 percent. The above cash flows are expressed without any consideration of inflation.

Required:
1. Compute the payback period.
2. Calculate the NPVand IRR of the proposed project.
3. Inflation is expected to be 5 percent per year for the next five years. The discount rate of 10 percent is composed of two elements: the real rate and the inflationary element. Since the discount rate has an inflationary component, the projected cash flows should also be adjusted to account for inflation. Make this adjustment, and recalculate the NPV. Comment on the importance of adjusting cash flows for inflationary effects.

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... Cost Of Capital
Cost of capital refers to the opportunity cost of making a specific investment . Cost of capital (COC) is the rate of return that a firm must earn on its project investments to maintain its market value and attract funds. COC is the required rate of... Discount Rate
Depending upon the context, the discount rate has two different definitions and usages. First, the discount rate refers to the interest rate charged to the commercial banks and other financial institutions for the loans they take from the Federal...