Buchanan Enterprises is considering investing in a machine that costs $400,000. The machine is expected to generate revenues of $175,000 per year for five years. The machine would be depreciated using the straight-line method with no half-year convention over five years and have no salvage value. The company considers the impact of income taxes in all of its capital investment decisions. The company has a 40 percent income tax rate and desires an after-tax rate of return of 10 percent on its investment. The net present value of the machine is:

Question

Quizplus · Accepted Answer

First, we need to calculate the annual depreciation expense:
($400,000 - $0) / 5 = $80,000

Next, we calculate the annual cash inflows:
$175,000

Next, we calculate the annual tax savings from depreciation:
$80,000 * 40% = $32,000

Next, we calculate the net cash inflow per year after taxes:
$175,000 - $32,000 = $143,000

Using a financial calculator, we can calculate the net present value of the investment as follows:
CF0 = -$400,000
CF1-5 = $143,000
I = 10%
N = 5
Solving for NPV, we get $119,337.

Since the NPV is positive, we can conclude that the investment is acceptable and the best choice is to invest in the machine.

Buchanan Enterprises Is Considering Investing in a Machine That Costs