NEW PROJECT ANALYSIS

World Global Corporation is considering the purchase of a new machine for SAR 336,000. The purchase of this machine will result in an increase in earnings before interest and taxes of SAR 32,000 per year. To operate this machine properly, workers would have to go through a brief training session that would cost SAR 13,800 after taxes. It would cost SAR 5,900 to install the machine properly. Also, because the machine is extremely efficient, its purchase would necessitate an increase in inventory or SAR 22,800. This machine has an expected life of 10 years; after which it will have no salvage value. Finally, to purchase the new machine, it appears that the firm would have to borrow SAR 85,000 at 6 percent interest from a bank, resulting in additional interest payments of SAR 10,000 per year. Assume simplified straight-line depreciation and that this machine is being depreciated down to zero, a 26 percent marginal tax rate, and a required rate of return of 7 percent.

DATA

Change in EBIT= 32,000

Purchase Price= 336,000

Training Session Fee = 13,800

Installation Fee = 5,900

Increase in Inventory = 22,800

Life = 10

Salvage Value = 0

Interest payments = 6,210

Depreciation = 25,100

Tax Rate = 26%

Required rate of return = 7%

A)

What is the initial outlay associated with this project?

Outflows

Purchase Price

Training Session Fee

Installation Fee

Increased Working Inventory

Net Initial Outlay

B)

What are the annual after-tax cash flows associated with this project for years 1 through 9?

Differential Annual Free Cash Flows (Years 1-9)

Cash Flow

Change in EBIT

Change in taxes

Change in depreciation

Project's Free Cash Flows

C)

What is the terminal cash flow in year 10 (what is the annual after-tax cash flow in year 10 plus any additional cash flows associated with the termination of the project)?

Terminal Free Cash Flow (Year 10)

Inflows:

Free Cash Flow in Year 10

Recapture of Working Capital (Inventory)

Total Terminal Cash Flow

D)

Should the machine be purchased?

Present Value of Free Cash Flows

Years 1-9

Year 10

Less Initial Cost

Net Present Value

Decision:

Note : make it as excel financial calculations