Book: Fundamentals ofFinancial

ofFinancial Management,
Management, James C. Van HorneJohn
HorneJohn M. Wachowicz, Jr., 13th
13th Edition, 2008

1. Pilsudski Coal Company is considering the replacement of two machines that are three
years old with a new, more efficient machine. The two old machines could be sold currently
for a total of $70,000 in the secondary market, but they would have a zero final
salvage value if held to the end of their remaining useful life. Their original depreciable
basis totaled $300,000. They have a depreciated tax book value of $86,400, and a remaining
useful life of eight years. MACRS depreciation is used on these machines, and they are
five-year property class assets. The new machine can be purchased and installed for
$480,000. It has a useful life of eight years, at the end of which a salvage value of $40,000 is
expected. The machine falls into the five-year property class for accelerated cost recovery
(depreciation) purposes. Owing to its greater efficiency, the new machine is expected to
result in incremental annual operating savings of $100,000. The company’s corporate
tax rate is 40 percent, and if a loss occurs in any year on the project, it is assumed that the
company can offset the loss against other company income. This Model is prepared by Rajib Dahal. If you need
What are the incremental cash inflows over the eight years, and what is the incremental excelsheet calculation, please contact me at my email at
cash outflow at time 0? rajib.dahal@nu.edu.kz
Capital Budgeting and Estimating Cash Flows - PART V - Chapter 12, Self-Correction Problems at Page No. 319
Assumptions
Initial Capex Investment 480,000.00 Depreciation Schedule for five-year property class
Year 1 20.00% Cost of Old Machine 300,000
Salvage Value of old machine 70,000.00 Year 2 32.00%
Depreciated/Book value of old machine 86,400.00 Year 3 19.20%
Tax Rate 0.40 Year 4 11.52%
Life time of old machine left to depreciate 3 years Year 5 11.52%
Salvage Value of new machine 40,000.00 Year 6 5.76%
Annual Savings due to new machine 100,000.00
Discounted Cash Flow Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8
Initial Capex Investment 480000.00
Salvage Value of old machine 70000.00
Gain from Salvage Value -16400.00
Cash savings from new machine 100,000.00 100,000.00 100,000.00 100,000.00 100,000.00 100,000.00 100,000.00 100,000.00
D&A(New Machine) 96000 153600 92160 55296 55296 27648
D&A(Old Machine) 34,560.00 34,560.00 17,280.00
Increase in D&A 61,440.00 119,040.00 74,880.00 55,296.00 55,296.00 27,648.00 - -
Cash savings before taxation 38,560.00 -19040.00 25,120.00 44,704.00 44,704.00 72,352.00 100,000.00 100,000.00
Salvage Value of new machine 40,000.00
Gain from Salvage Value 40,000.00
Taxation -6560.00 15,424.00 -7616.00 10,048.00 17,881.60 17,881.60 28,940.80 40,000.00 56,000.00
Cash flows after taxation 23,136.00 -11424.00 15,072.00 26,822.40 26,822.40 43,411.20 60,000.00 84,000.00
Add: D&A (Increment) 61,440.00 119,040.00 74,880.00 55,296.00 55,296.00 27,648.00 - -
Transaction Cash flows -403440.00 84,576.00 107,616.00 89,952.00 82,118.40 82,118.40 71,059.20 60,000.00 84,000.00
Total (Without discounting) 258,000.00