Answer questions belowKey Components and Calculations:

Key Components and Calculations

1. Initial Investment Outlay
   • Cost of New Equipment: $118,000
   • Market Value of Old Equipment: $4,200
   • Tax Savings on Sale of Old Equipment: Calculated as $4,200 * 25% = $1,050
   • Increase in Net Working Capital: $6,500
   • Removal Cost of Old Equipment: $1,000
   • Total Net Investment: $118,000 - $4,200 + $1,050 + $6,500 + $1,000 = $122,350
2. Operating Cash Flows Over the Project's Life
   • Annual Cost Savings: $32,000
   • Depreciation on New Machine: Calculated using MACRS rates for each year.
     • Year 1: $118,000 * 14% = $16,520
     • Year 2: $118,000 * 25% = $29,500
     • Year 3: $118,000 * 17% = $20,060
     • Year 4: $118,000 * 13% = $15,340
     • Year 5: $118,000 * 9% = $10,620
     • Year 6: $118,000 * 9% = $10,620
     • Year 7: $118,000 * 9% = $10,620
   • Savings After Depreciation: Annual Cost Savings - Depreciation
   • Tax on Savings: 25% of Savings After Depreciation
   • Cash Flow After Tax Effect: Annual Cost Savings - Tax on Savings
3. Terminal Year Cash Flows
   • Estimated Salvage Value of New Machine: $8,000
   • Removal Cost of New Equipment: $1,200
   • Tax on Sale of New Machine at Salvage Value: $8,000 * 25% = $2,000
   • Return of Working Capital: $6,500
   • Total Termination Cash Flows: $8,000 - $1,200 - $2,000 + $6,500 = $11,300
4. Net Cash Flows
   • Net Cash Flow Timeline: Initial Investment and subsequent cash flows over the project's life, including terminal year cash flows.

Financial Metrics

(Show calculated work NPV, IRR, MRR and Payback Period)

• Net Present Value (NPV): Calculated by discounting the net cash flows at the firm's WACC (10.575%) and summing them up. The NPV is given as $16,565.
• Internal Rate of Return (IRR): The discount rate that makes the NPV of the project zero. Given as 14.97%.
• Modified Rate of Return (MRR): A variation of IRR that accounts for the cost of capital and reinvestment rate. Given as 12.80%.
• Payback Period: The time it takes for the project to recover its initial investment from its cash flows. Given as 4.23 years.

Answer questions:

1. Compute the firm's weighted average cost of capital given the info/data in the case. What other approaches/methods can be used to measure the firm's cost of common equity and thus its WACC? To that end, what additional info/data would you need? (Hint: A firm's weighted average cost of capital is equal to = ()(1 - t) + , where and are the weights of debt and equity in the capital structure; and

are the respective costs of debt and equity; and t is the corporate tax rate; Do no round up your WACC figure.) 2. Develop a capital budgeting schedule using the attached Cash Flow Estimation Worksheet (Excel spreadsheet) that should list all relevant cash flow items and amounts related to the replacement project over the 7-year expected life of the new pumping system. (Reference Reading: "Cash Flow Analysis Example (RIC Project)", one of required Readings for the course.) 3. Based on the capital budgeting schedule, evaluate the replacement project by computing NPV, IRR, MIRR, and Payback Period. Would you recommend to accept or reject the replacement project based solely on your DCF analysis so far? 4. Before you make the final accept/reject decision, what other factors and approaches would you consider further? Discuss also how to PRACTICALLY take into account those factors and approaches in the capital budgeting decision process, whenever applicable.