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 $220,000, and it would cost another $30,000 to modify it for special use. Assume that the mover falls into the MACRS 5-year class, it would be sold after 4 years for $60,000, and it would require an increase in net operating working capital (spare parts inventory) of $10,000. The earth mover would have no effect on revenues, but it is expected to save the firm $52,000 per year in before-tax operating costs, mainly labor. The firms marginal federal-plus-state tax rate is 25 percent and the projects cost of capital is 10 percent. Evaluate the project using the NPV rule and the IRR rule.

Problem 2- Evaluating a Cost Saving Project Year 0 Acquisition - 5 Year Life Earth Mover Installation Costs Total Initial Investment Savings in Costs Depreciation Rate (5 Year) Total Depreciation Costs ings Before Income Tax (EBIT) Tax Rate Total Taxes det Operating Profits (NOPAT) Add Back Depreciation Operating Cash Flow Net Operating Working Capital ?? Increase in NOVC ?? otal Annual Project Cash Flow ?? Terminal Year Cash Flow Machine Sale Less: Book Value of Machine Profit on Sale Tax on Profit (25%) et Salvage Value on Equipment (220,000) (30,000) $ ?? ?? ?? ?? ?? Year 1 ?? ?? ?? ?? 52,000 $ 2.00% ?? (50,000) ?? ?? ?? ?? ?? ?? Year 2 ?? ?? ?? ?? 52,000 $ ?? ?? ?? ?? ?? ?? ?? Year 3 ?? ?? ?? ?? 52,000 $ ?? ?? ?? ?? ?? ?? ?? Year 4 ?? ?? ?? ?? ?? ?? ?? ?? ?? 52,000