Flow Estimation and Risk Analysis 4. Analysis of a replacement project At times firms will need to decide if they want to continue to use their current equipment or replace the equipment with newer equipment. The company will need to do replacement analysis to determine which option is the best financial decision for the company LoRusso Co. is considering replacing an existing piece of equipment. The project involves the following: The new equipment will have a cost of $2,400,000, and it is eligible for 100% bonus depreciation so it will be fully deprecated at t-0. . The old machine was purchased before the new tax law, so it is being deprecated on a straight-line basis. It has a book value of $200,000 (at year) and four more years of deprecation left ($50,000 per year). The new equipment will have a salvage value of $0 at the end of the project's life (Year 6). The old machine has a current salvage value (at year 0) of $300,000 Replacing the old machine will require an investment in het operating working capital (NOWC) of $30,000 that will be recovered at the end of the project's life (year 6). . The new machine is more efficent, so the firm's incremental earnings before interest and taxes (EBIT) will increase by a total of $600,000 in each of the next six years (years 1-6). Hint: This value represents the difference between the revenues and operating costs (including depreciation expense) generated using the new equipment and that earned using the old equipment The project's cost of capital is 13% The company's annual tax rate is 25%. 45F A 0 11 12 Q Sear Ch 12-Assignment - Cash Flow Estimation and Risk Analysis Complete the following table and compute the incremental cash flows associated with the replacement of the old equipment with the new equipment. Year Year 1 Year 2 Year 3 Year 4 Year 5 Initial investment EBIT Taxes Depreciation XT + Salvage value Tax on salvage NOWC + Recapture of NOWC Total free O 45F 12- Assignment - Cash Flow Estimation and Risk Analysis Tax on salvage NOWC + Recapture of NOWC Total free cash flow