Problem #4 Replacement Project

Assume we are considering the replacement of old equipment with new equipment that has more capacity and is less costly to operate. The characteristics of the old and new equipment are given below:

Old Equipment New Equipment Current book value $300,000

Current market value $550,000 $850,000

Remaining life 8 years 8 years

Annual sales $250,000 $420,000

Cash operating expenses $75,000 $125,000

Annual depreciation $30,000 $85,000

Accounting salvage value $0 $0

Expected salvage value $70,000 $150,000

If the new equipment replaces the old equipment, an additional investment of $65,000 in net working capital will be required. The tax rate is 30 percent, and the required rate of return is 8 percent.

(a) Calculate the initial outlay that is the investment in the new equipment plus the additional investment in net working capital less the after-tax proceeds from selling the old equipment

Outlay = __________________________

(b) Calculate the incremental operating cash flows.

Cash Flows = __________________________

(c) Calculate the terminal year incremental after-tax non-operating cash flow.

TNOCF = __________________________

(d) Calculate the NPV and IRR:

Net Present Value (NPV) = __________________________

Internal Rate of Return (IRR) = __________________________