3) Heller Inc. purchases a new prototype machine to replace the exisiting machine. The machine will...

 

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3) Heller Inc. purchases a new prototype machine to replace the exisiting machine. The machine will have a five year economic life. The new machine will reduce before tax operating cost savings $100,000 annually. The machine will require a $420,000 investment which will be depreciated on a straight-line basis over the six-year life to a salvage value of $0. They will not be able to sell the machine for anything at the end of the project. Assume this project will be able to DECREASE net working capital initally by $40,000 (in year 0), then in the fifth year, the NWC will revert back to the amount it was before the project. 1) If Heller has a 30% tax rate should they replace the old machine? Justify your answer with an NPV. Assume the old machine has no salvage value and Heller has a 10% opportunity cost of capital. 2) Now, based on your DCF analysis in Part 1, assume that you view the project as a real option and you were going to make the investment two years from today. How much would the real option be worth? Assume the following information: * Risk free rate: 3% *WACC: 10% * Annual Variance of CFs = 0.16 3) Heller Inc. purchases a new prototype machine to replace the exisiting machine. The machine will have a five year economic life. The new machine will reduce before tax operating cost savings $100,000 annually. The machine will require a $420,000 investment which will be depreciated on a straight-line basis over the six-year life to a salvage value of $0. They will not be able to sell the machine for anything at the end of the project. Assume this project will be able to DECREASE net working capital initally by $40,000 (in year 0), then in the fifth year, the NWC will revert back to the amount it was before the project. 1) If Heller has a 30% tax rate should they replace the old machine? Justify your answer with an NPV. Assume the old machine has no salvage value and Heller has a 10% opportunity cost of capital. 2) Now, based on your DCF analysis in Part 1, assume that you view the project as a real option and you were going to make the investment two years from today. How much would the real option be worth? Assume the following information: * Risk free rate: 3% *WACC: 10% * Annual Variance of CFs = 0.16

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1To determine whether Heller Inc should replace the old machine we need to calculate the net present ... View the full answer