A drill press costs $30,000 and is expected to have a 10-year life. The drill press will be depreciated on a straight-line basis over 10 years to a zero estimated salvage value. This machine is expected to reduce the firm's cash operating costs by $4,500 per year. Assuming the firm is in the 40 percent marginal tax bracket, determine the annual net cash flows generated by the drill press.

Question

Quizplus · Accepted Answer

The annual depreciation expense is $30,000 / 10 = $3,000. The tax savings from depreciation is $3,000 * 40% = $1,200. The annual net cash flows are the cost savings of $4,500 plus the tax savings of $1,200, which equals $5,700. However, after-tax savings should be calculated as: $4,500 - ($4,500 * 40%) = $2,700. Therefore, the correct annual net cash flow is $2,700 (savings after tax) + $1,200 (tax savings from depreciation) = $3,900.

A Drill Press Costs $30,000 and Is Expected to Have