The Johnson Chemical Company has just received a

special subcontracting #4895

The Johnson Chemical Company has just received a special subcontracting job from one of its
clients. The two-year project requires the purchase of a special-purpose painting sprayer of
$60,000. This equipment falls into the MACRS five-year class. After the subcontracting work is
completed, the painting sprayer will be sold at the end of two years for $40,000 (actual dollars).
The painting system will require an increase of $5,000 in net working capital (for spare-parts
inventory, such as spray nozzles). This investment in working capital will be fully recovered after
the project is terminated. The project will bring in an additional annual revenue of $120,000
(today's dollars), but it is expected to incur an additional annual operating cost of $60,000
(today's dollars). It is projected that, due to inflation, sales prices will increase at an annual rate
of 5%. (This implies that annual revenues will increase at an annual rate of 5%) An annual
increase of 4% for expenses and working-capital requirement is expected. The company has a
marginal tax rate of 30%, and it uses a market interest rate of 15% for project evaluation during
the inflationary period. The firm expects a general inflation of 8% during the project period.(a)
Compute the after-tax cash flows in actual dollars.(b) What is the rate of return on this
investment (real earnings)?(c) Is the special subcontracting project profitable'View Solution:
The Johnson Chemical Company has just received a special subcontracting

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