$650 $325 $3,575 $4,150 $800 6 $13,000 $1,300 $2,000 $1,400 $2,900 $700 Year 1 20.00% Year 2 Year 3 19 20% Year 4 11.52% Year 5 11.52% Years 5.76% 32.00% 40.00% 16.00% 1 Replacement Analysis 2 3 Old Equipment 4 Depreciation expense, Years 1 to 5 5 Depreciation expense, Year 6 6 Current book value 7 Current market value 8 Market value, Year 6 9 10 New Equipment: 11 Estimated useful life (in years) 12 Purchase price 13 Salvage value, Year 6 14 Annual sales increase 15 Annual reduction in operating expenses 16 Initial increase in inventories 17 initial increase in accounts payable 18 19 20 MACRS depreciation rates (5-year class) 21 22 Tax rate 23 WACC 24 25 Step 1: Calculation of investment at t = 0 26 Purchase price of new equipment 27 Sale of old equipment 28 Tax on sale of old equipment 29 Change in net operating working capital 30 Total investment outlay 31 32 Step 2. Calculation of annual after-tax cash inflows 33 Annual sales increase 34 Annual reduction in operating expenses 35 Annual increase in pre-tax revenues 36 37 After-tax annual revenue increase 38 39 Step 3: Calculation of annual depreciation tax savings 3 40 41 New equipment 42 Old equipment 43 Change in annual depreciation 44 45 Annual dpreciation tax savings 46 Formulas -$13,000 $4,150 #N/A #N/A #N/A $2,000 $1,400 #N/A #N/A Year 1 Year Year 3 Year 4 Year 5 Year 6 $650 $650 $650 $650 -$650 $325 -$650 Year 2 WNIA Year 1 WNA $650 -$650 Year 3 NIA $650 -$650 Year 4 N/A $650 -$650 Year 5 EN/A $650 $650 Year 6 EN/A $325 $325 $650 -$650 WNA #N/A #N/A ANIA #N/A #N/A Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Formulas Year o SO 47 Formulas 48 49 New equipment 50 Old equipment 51 Change in annual depreciation 52 53 Annual depreciation tax savings 54 55 Step 4: Calculation of net present value of replacement : 56 57 Initial investment outlay 58 Annual after-tax revenue increase 59 Annual depreciation tax savings 60 Working capital recovery 61 Salvage value on new equipment 62 Tax on salvage value of new equipment 63 Opportunity cost of old equpment 64 Project cash flows 65 66 67 Net present value 68 Should firm replace the old equipment? 69 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 #N/A $1,300 N/A #N/A INA SO $0 $0 $0 $0 $0 $ Formulas WNIA WNIA 70 71 72 The Gilbert Instrument Corporation is considering replacing the wood steamer it currently uses to shape guitar sides. The steamer has 6 years of remaining life. If kept, the steamer will have depreciation expenses of $650 for 5 years and $325 for the sixth year. Its current book value is $3,575, and it can be sold on an Internet auction site for $4,150 at this time. If the old steamer is not replaced, it can be sold for $800 at the end of its useful life. Gilbert is considering purchasing the Side Steamer 3000, a higher-end steamer, which costs $13,000, and has an estimated useful life of 6 years with an estimated salvage value of $1,300. This steamer falls into the MACRS 5-years class, so the applicable depreciation rates are 20.00%, 32.00%, 19.20%, 11.52%, 11.52%, and 5.76%. The new steamer is faster and would allow for an output expansion, so sales would rise by $2,000 per year; even so, the new machine's much greater efficiency would reduce operating expenses by $1,400 per year. To support the greater sales, the new machine would require that inventories increase by $2,900, but accounts payable would simultaneously increase by $700. Gilbert's marginal federal-plus-state tax rate is 40%, and its WACC is 16%. The data has been collected in the Microsoft Excel Online file below. Open the spreadsheet and perform the required analysis to answer the questions below. Open spreadsheet Should it replace the old steamer? The old steamer V be replaced. What is the NPV of the project? Do not round intermediate calculations. Round your answer to the nearest dollar. $