Payback Period and NPV: Taxes and Straight-Line Depreciation (LO2, 3, 6)

Assume that United Technologies is evaluating a proposal to change the company’s manual design system to a computer-aided design (CAD) system. The proposed system is expected to save 10,000 design hours per year; an operating cost savings of $40 per hour. The annual cash expenditures of operating the CAD system are estimated to be $200,000. The CAD system requires an initial investment of $500,000. The estimated life of this system is five years with no salvage value. The tax rate is 40 percent, and United Technologies uses straight-line depreciation for tax purposes. United Technologies has a cost of capital of 16 percent.

Required

a. Compute the annual after-tax cash flows related to the CAD project.

b. Compute each of the following for the project:
1. Payback period.
2. Net present value. LO.1