New Project Analysis

You have been asked by the president of the Farr Construction Company to evaluate the proposed acquisition of a new earth mover. The movers basic price is $50,000 and it would cost another $10,000 to modify it for special use. Assume that the mover has a MACRS 3-year recovery period. It would be sold after 4 years for $20,000 and it would require an increase in net working capital (spare parts inventory) of $2,000. The earth mover would have no effect on revenues, but it is expected to save the firm $20,000 per year in before-tax operating costs, mainly labor. The firms marginal federal-plus-state tax rate is 40 percent.

A. What is the initial cash flow?

B. What are all of the operating cash flows?

C. What is the terminal cash flow?

D. Should Farr Construction invest or not? Why? Be sure that your answer includes BOTH the NPV and the IRR of the project.