Problem 4

The Campbell Company

Input Data:

Base Price $140,000

Modification Cost $30,000
Investment in Net operating Worki $8,000
MACRS - 3 Year ( Depreciation) $60,000
Depreciation Rates Year 1 Year 2 Year 3
33% 45% 15%

Solution
a. Initial Investment Outlay (at t=0)
Initial Investment Outlay is calculated as follows,

Initial Investment Outlay = New equipment Cost + Working Capital

Initial Investment Outlay = $140,000 + 30,000 + 8,000
Initial Investment Outlay = $ 178,000

b. Calculation of Net Operating Cash Flow for Year 1, 2 and 3

For Year 0
Base Price 140,000
Additional Cost 30,000
Initial Investment 8,000

Year 0 Project Cash Fl -178,000

Projected Annual Cash Flow for Year 1

Annual Cah Flow = Decrease in before -tax labor cost * (1 - tax rate) + Annual Depreciation * tax rate
Anuual cash flow = 50,000 * (1-0.35) + (140,000+30,000)*0.33*0.35
Annual Cash Flow= 50,000 * (1-0.35) + (140,000+30,000)*0.33*0.35
Annal Cash Flow = 52135

Projected Annual Cash Flow for Year 2

Annual Cah Flow = Decrease in before -tax labor cost * (1 - tax rate) + Annual Depreciation * tax rate
Anuual cash flow = 50,000 * (1-0.35) + (140,000+30,000)*0.45*0.35
Annual Cash Flow= 50,000 * (1-0.35) + (140,000+30,000)*0.45*0.35
Annal Cash Flow = 59275

Projected Annual Cash Flow for Year 3

Annual Cah Flow = Decrease in before -tax labor cost * (1 - tax rate) + Annual Depreciation * tax rate
Anuual cash flow = 50,000 * (1-0.35) + (140,000+30,000)*0.15*0.35
Annual Cash Flow= 50,000 * (1-0.35) + (140,000+30,000)*0.15*0.35
Annal Cash Flow = 41425

c. Projected Annual Cash Flow for Year 3

Annual Cah Flow = Decrease in before -tax labor cost * (1 - tax rate) + Annual Depreciation * tax rate + Annual Dep
Anuual cash flow = 50,000 * (1-0.35) + (140,000+30,000)*0.15*0.35 + 8,000 + (60,000-35%*(60000-178,000*(1-33
Annual cash flow = $92,590

d. Project Cost of Capital is 9 %

The project has a Net present Value of 8,783 dollars, therfore it should not be accepted.
Year Cash Flow PV at 9%
0 -178,000 -178,000
1 52,135 47830
2 59275 49891
3 92590 71496
References -8,783

Adam Hayes (2022). What is cost of capital? Investopedia.

https://www.investopedia.com/terms/c/costofcapital.asp
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tion * tax rate

tion * tax rate

tion * tax rate + Annual Depreciation + tax rate + working capital recovery + Post Tax salvage value
-35%*(60000-178,000*(1-33%-45%-15%)))