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Burton, a manufacturer of snowboards, is considering replacing an existing piece of equipment with a more sophisticated machine. The following information is given. The proposed
Burton, a manufacturer of snowboards, is considering replacing an existing piece of equipment with a more sophisticated machine. The following information is given.
- The proposed machine will cost $120,000 and have installation costs of $20,000. It will be depreciated using a 3 year MACRS recovery schedule. It can be sold for $60,000 after three years of use (before tax; at the end of year 3).
- The existing machine was purchased two years ago for $95,000 (including installation). It is being depreciated using a 3 year MACRS recovery schedule. It can be sold today for $20,000. It can be used for three more years, but after three more years it will have no market value.
- The earnings before taxes and depreciation (EBITDA) are as follows:
- New machine: Year 1: 133,000, Year 2: 96,000, Year 3: 127,000
- Existing machine: Year 1: 84,000, Year 2: 70,000, Year 3: 74,000
- Burton pays 21% taxes on ordinary income and capital gains and uses a WACC of 14%.
- They expect a large increase in sales so their Net Operating Working Capital will increase by $20,000 when they buy the machine, and it will be recovered at the end of the project life.
- Calculate the initial investment required for this project.
- Determine the incremental after-tax operating cash flows
- Find the terminal cash flow for the project
- Find the Discounted Payback period, NPV, IRR, and MIRR.
- Should the new machine be purchased? Why or why not?
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