Question
Damon Corporation, a sports equipment manufacturer, has a machine currently in use that was originally purchased 3 years ago for $120,000. The firm depreciates the
Damon Corporation, a sports equipment manufacturer, has a machine currently in use that was originally purchased 3 years ago for $120,000. The firm depreciates the machine under MACRS, using a 5-year recovery period. Once removal and cleanup costs are taken into consideration, the expected net selling price for the old machine will be $70,000. Damon can buy a new machine for a net price of $160,000 (including installation costs of $15,000). The new machine will be depreciated under MACRS, using a 5-year recovery period. If the firm acquires the new machine, its working capital needs will change: Accounts receivable will increase $15,000, inventory will increase $19,000, and accounts payable will increase $16,000.
Earnings before interest, taxes, depreciation, and amortization (EBITDA) for the old machine are expected to be $95,000 for each of the successive 5 years. For the new machine, the expected EBITDA for each of the next 5 years are $105,000, $110,000, $120,000, $120,000, and $120,000, respectively. The corporate tax rate (T) for the firm is 21%.
Damon expects to liquidate the new machine after 5 years for $24,000. The old machine should net $8,000 upon liquidation at the end of the same period, when Damon expects to recover its net working capital investment. The firm is subject to a tax rate of 21%.
Create a spreadsheet similar to Tables 11.1, 11.5, 11.7, and 11.9 to answer the following:
A. Create a spreadsheet to calculate the initial cash flow.
B. Create a spreadsheet to prepare a depreciation schedule for both the proposed and the present machine. The old machine is depreciated under MACRS using a 5-year recovery period. Assume that the new machine qualifies for 100% bonus depreciation. Remember that the present machine has only 3 years of depreciation remaining.
C. Create a spreadsheet to calculate the periodic cash flows for Damon corporation for both the proposed and the present machine.
D. Create a spreadsheet to calculate the terminal cash flow associated with the project.
Original purchase price 3 years ago 120000
Net selling price of the existing machine 70000
Cost of new machine (including installation costs) 160000
Installation Costs 15000
Salvage value of new machine (after 5 years) 24000
Salvage value of existing machine (after 5 years) 8000
Changes to working capital:
Increase in accounts receivable 15000
Increase in Inventory 19000
Increase in Accounts Payable 16000
EBDIT per year for the present machine next 5 years 95000
EBDIT for the proposed machine for next five years:
Year 1: 105000
Year 2: 110000
Year 3: 120000
Year 4: 120000
Year 5: 120000
Tax: 21%
Depreciation MACRS 5-Year Recovery
Year Recovery
1. 20%
2. 32%
3. 19%
4. 12%
5. 5%
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