The Alabama Cotton Company is evaluating the proposed acquisition of a new weaving machine. The machine's base price is $180,000, and it would cost another $25,000 to modify it for special use by the firm. The machine is classified as a MACRS 3-year asset, and it can probably be sold for $80,000 at the end of the third year. The machine would require an increase in net working capital of $7,500. The machine would have no effect on revenues, but it would save the firm $75,000 in operating costs. Inflation should increase these savings by 2% per year. Alabama Cotton's marginal tax rate is 34% and its required rate of return is 10%.

a.Construct the cash flows for each year by modifying an income statement. Be able to describe why you treated each cash flow as you did.

b.Should your cash flows include any financial flows such as interest expense or dividends? Why or why not?

c.Determine whether the machine should be purchased. Explain your decision.

d.How much taxes did you save by having depreciation expense? This question can be answered with one simple calculation.