0 1 2

Investment Outlays at Time = 0

Equipment -$900
Net WC -100

Net Cash Flows Over the Project’s Life

Unit Sales 537 520
Sales Price $10 $10
Variable Cost/Unit $5.092 $5.391
Sales Revenue=Units Sales x Sales Price $5,370 $5,200
Variable Cost=Unit Sales x Variable Cost/Unit $2,734.40 $2,803.32
Fixed operating costs except depreciation 2000 2000
Depreciation: Accelerated from table below $ 297 $ 405
Total operating costs $5,031.40 $5,208.32
EBIT (or operating income) $339 -$8
Taxes on operating income 40% 40% $135 -$3
After-tax project operating income $203 -$5
Add back depreciation $ 297 $ 405
Salvage value (taxed as ordinary income)
Tax on salvage value (SV is taxed at 40%)
Recovery of net working capital
Project net cash flows (Time Line) -$1,000 $500 $400

Depreciation Calculations Accelerated 1 2

Cost $ 900 Rate 33% 45%
Depreciation $ 297 $ 405

1. If the firm owned assets that would be used for the project but would be sold if the project is not accepted, the
after-tax value of those assets would be shown as an ”opportunity cost” in the ”Investment Outlays” section.
2. If this project would reduce sales and cash flows from one of the firm's other divisions, then the after-tax cannibalization
effect, or ”externality,” would be deducted from the net cash flows shown on Row 22.
3. Accelerated depreciation rates are set by Congress. We show the approximate rates for a 4-year asset in 2008.
Companies also have the option of using straight-line depreciation. Under IRS rules, salvage value is not deducted when
establishing the depreciable basis. However, if a salvage payment is received, it is called a recapture of depreciation
and is taxed at the 40% rate.
4. If the firm had previously incurred costs associated with this project, but those costs could not be recovered
regardless of whether this project is accepted, then they are ”sunk costs” and should not enter the analysis.

WACC 10%
Excel Formula
NPV $78.93 =NPV(C41,H22:K22)+G22
IRR 14.495% =IRR(G22:K22)
MIRR 12.109% =MIRR(G22:K22,C41,C41)
 3 4

505 490
$10 $10
$5.228 $6.106
$5,050 $4,900
$2,640.14 $2,991.94
2000 2000
$ 135 $ 63
$4,775.14 $5,054.94
$275 ($155)
$110 -$62
$165 ($93)
$ 135 $ 63
$50
($20)
$100
$300 $100

3 4
15% 7%
$ 135 $ 63

t is not accepted, the

Outlays” section.
en the after-tax cannibalization

4-year asset in 2008.

value is not deducted when
capture of depreciation

not be recovered
er the analysis.
Data applicable to both machines:
Sales revenues, which would remain constant $2,500
Expected life of the new and old machines 4 years
WACC for the analysis 10%
Tax rate 40%
Data for old machine:
Market (salvage) value of the old machine today $400
Old labor, materials, and other costs per year $1,000
Old machine’s annual depreciation $100
Data for new machine:
Cost of new machine $2,000
New labor, materials, and other costs per year $400
0 1 2
Part I: Net Cash Flow Before Replacement
Sales Revenue $2,500 $2,500
Cost except Depreciation 1000 1000
Depreciation 100 100
Total Operating Cost $1,100 $1,100
Operating Income $1,400 $1,400
Taxes 40% 560 560
After Tax Operaing Income $840 $ 840
Add Back Depreciation 100 100
Net Cash Flows before Replacement $940 $ 940

Part II: Net Cash Flow After Replacement 0 1 2

New Machine Cost ($2,000)
Salvage Value Old Machine $400
Sales Revenue $2,500 $2,500
Cost except Depreciation 400 400
Depreciation 660 900
Total Operating Cost $1,060 $1,300
Operating Income $1,440 $1,200
Taxes 40% 576 480
After Tax Operaing Income $864 $ 720
Add Back Depreciation 660 900
Net Cash Flows before Replacement ($1,600) $1,524 $ 1,620
Part III: Incremental Cash and Evaluation 0 1 2
Inc. CF=CF After - CF Before ($1,600) $584 $ 680

WACC 10%

NPV $80.28
IRR 12.51%
MIRR 11.35%
Part IV: Alternate Calculations of NCF 0 1 2
New Machine Cost ($2,000)
Salvage Value Old Machine $400
Net Cost of New Machine ($1,600)
Cost Saving= Old-New $600 $600
A-T Savings = Cost Saving (1-T%) 360 360
D Depreciation 560 800
Depreciation Tax Saving = D Depreciation x Tax Rate 224 320
NCF=A-T Cost Saving + Depr. Tax Saving ($1,600) 584 680
 3 4

$2,500 $2,500
1000 1000
100 100
$1,100 $1,100
$1,400 $1,400
560 560
$ 840 $ 840
100 100
$ 940 $ 940

3 4

$2,500 $2,500
400 400
300 140
$700 $540
$1,800 $1,960
720 784
$ 1,080 $ 1,176
300 140
$ 1,380 $ 1,316
3 4
$ 440 $376
 3 4

$600 $600
360 360
200 40
80 16
440 376
Old Machine:
Molding Machine Purchased 2 years ago
Remaining life 6 years
Depareciation Method Straight Line
Current Book Value $2,100
Current Market Value $2,500
Annual Depreciation Expense = 2100/6 $350
If replaced can be sold at end of 6 years at $500
New Machine:
Cost $8,000
Estimated Useful Life (Years) 6
Salvage Value $800
MACRS 5-year class: 20%, 32%, 19%, 12%, 11%, and 6%.
Operations:
Sales Increase $1,000
Decline in Operating Expenses $1,500
Increase in Inventories $2,000
Increase in A/C Payable $500
Tax% 40%
WACC 11%
Cash Flow Estimates:
Life
Investement Outlays at Time 0
Cost of New Machine
Market Value of Old Machine
Tax on Gain (2500 - 2100 = 400 x 0.40 = $160)
Increase in Working Capital (2000 - 500)

Cash Flows during life:

Increase in sale
Operating Cost Savings
Incremental Depreciation Expense (New Dep - Old Dep)
Operating Cash Flows
Tax 40%
After Tax Cash Flows
Add: Depreciation
Salvage Value of New Machine
Tax on Gain due to sell of new machine
Recovery of Working Capital
Net Cash Flows
NPV

WACC 11%
Cash Flow Estimates:
Life
Investement Outlays at Time 0
Cost of New Machine
Market Value of Old Machine
Tax on Gain (2500 - 2100 = 400 x 0.40 = $160)
Increase in Working Capital (2000 - 500)

Cash Flows during life New:

Increase in sale
Operating Cost Savings
Depreciation Expense New
Operating Cash Flows
Tax 40%
After Tax Cash Flows
Add: Depreciation

Salvage Value of New Machine

Tax on Gain due to sell of new machine
Recovery of Working Capital
Net Cash Flows
NPV

Cash Flows during life Old:

Depreciation Expense
Tax saving
Cash Flow
Add Depreciation
Net Cash Flow old Machine
NPV
 0 1 2 3 4 5 6

$ (8,000)
2,500
(160)
(1,500)

$ 1,000 $ 1,000 $ 1,000 $ 1,000 $ 1,000 $ 1,000

1500 1500 1500 1500 1500 1500
(1,250) (2,210) (1,170) (610) (530) (130)
$ 1,250 $ 290 $ 1,330 $ 1,890 $ 1,970 $ 2,370
(500) (116) (532) (756) (788) (948)
$ 750 $ 174 $ 798 $ 1,134 $ 1,182 $ 1,422
1,250 2,210 1,170 610 530 130
 $ 2,000 $ 2,384 $ 1,968 $ 1,744 $ 1,712 $ 1,552
800
(320)
1500
$ (7,160) $ 2,000 $ 2,384 $ 1,968 $ 1,744 $ 1,712 $ 3,532
$ 1,864

0 1 2 3 4 5 6

$ (8,000)
2,500
(160)
(1,500)

$ 1,000 $ 1,000 $ 1,000 $ 1,000

$ 1,000 $ 1,000
1500 1500 1500 1500
1500 1500
(1,600) (2,560) (1,520) (960)
(480) (880)
$ 900 $ (60) $ 980 $ 1,540
$ 2,020 $ 1,620
(360) 24 (392) (616)
(808) (648)
$ 540 $ (36) $ 588 $ 924
$ 1,212 $ 972
1,600 2,560 1,520 960
480 880
$ 2,140 $ 2,524 $ 2,108 $ 1,884
$ 1,692 $ 1,852
800
(320)
1500
$ (7,160) $ 2,140 $ 2,524 $ 2,108 $ 1,884 $ 1,852 $ 3,672
$ 2,397

0 -350 -350 -350 -350 -350 -350

140 140 140 140 140 140
-210 -210 -210 -210 -210 -210
350 350 350 350 350 350
0 140 140 140 140 140 140
$533.58
$ 1,863.84
a)
0 1 2 3
Initial Invetsment Outlay -250000.00
Net Op. Working Capital (25000)

Cost Savings $ 90,000.00 $ 90,000.00 $ 90,000.00

Depreciation -82500 -112500 -37500
Operating Income Before Tax $ 7,500.00 $ (22,500.00) $ 52,500.00
Tax 40% -3000 9000 -21000
Operating Income After Tax $ 4,500.00 $ (13,500.00) $ 31,500.00
Add Depreciaion 82500 112500 37500
Operating Cash Flows $ 87,000.00 $ 99,000.00 $ 69,000.00

Return of NOWC
Sale of machine
Tax on proceeds from Sale of machine
Net Cash Flow -275000.00 $ 87,000.00 $ 99,000.00 $ 69,000.00
WACC 10%
NPV $37,035.13

b) If Ssavings Increased by 20% i.e. 90000 x (1+0.20 ) = 108000

0 1 2 3
Initial Invetsment Outlay -250000.00
Net Op. Working Capital (25000)

Cost Savings $ 108,000 $ 108,000 $ 108,000

Depreciation -82500 -112500 -37500
Operating Income Before Tax $ 25,500 $ (4,500) $ 70,500
Tax 40% -10200 1800 -28200
Operating Income After Tax $ 15,300 $ (2,700) $ 42,300
Add Depreciaion 82500 112500 37500
Operating Cash Flows $ 97,800 $ 109,800 $ 79,800

Return of NOWC
Sale of machine
Tax on proceeds from Sale of machine
Net Cash Flow -275000 97800 109800 79800
WACC 10%
NPV $77,975.63
if Saving decrease by 20% i.e. 90000 x (1-0.2) = 72000
0 1 2 3
Initial Invetsment Outlay -250000.00
Net Op. Working Capital (25000)

Cost Savings $ 72,000 $ 72,000 $ 72,000

Depreciation -82500 -112500 -37500
Operating Income Before Tax $ (10,500) $ (40,500) $ 34,500
Tax 40% 4200 16200 -13800
Operating Income After Tax $ (6,300) $ (24,300) $ 20,700
Add Depreciaion 82500 112500 37500
Operating Cash Flows $ 76,200 $ 88,200 $ 58,200

Return of NOWC
Sale of machine
Tax on proceeds from Sale of machine
Net Cash Flow -275000 76200 88200 58200
WACC 10%
NPV ($3,905.37)

c) Worst Case Scenario

0 1 2 3
Initial Invetsment Outlay -250000.00
Net Op. Working Capital (30000)

Cost Savings $ 72,000 $ 72,000 $ 72,000

Depreciation -82500 -112500 -37500
Operating Income Before Tax $ (10,500) $ (40,500) $ 34,500
Tax 40% 4200 16200 -13800
Operating Income After Tax $ (6,300) $ (24,300) $ 20,700
Add Depreciaion 82500 112500 37500
Operating Cash Flows $ 76,200 $ 88,200 $ 58,200

Return of NOWC
Sale of machine
Tax on proceeds from Sale of machine
Net Cash Flow -280000 76200 88200 58200
WACC 10%
NPV ($7,663.52)

Base Case Scenario already estimated in Part a NPV = 37053.13

Best Case Scenario

0 1 2 3
Initial Invetsment Outlay -250000.00
Net Op. Working Capital (20000)

Cost Savings $ 108,000 $ 108,000 $ 108,000

Depreciation -82500 -112500 -37500
Operating Income Before Tax $ 25,500 $ (4,500) $ 70,500
Tax 40% -10200 1800 -28200
Operating Income After Tax $ 15,300 $ (2,700) $ 42,300
Add Depreciaion 82500 112500 37500
Operating Cash Flows $ 97,800 $ 109,800 $ 79,800

Return of NOWC
Sale of machine
Tax on proceeds from Sale of machine
Net Cash Flow -270000 97800 109800 79800
WACC 10%
NPV $81,733.79

Scenario Analysis:
Probability NPV Prob x NPV
Worst Case 0.35 -7663.52 -2682.23
Base Case 0.35 37053.13 12968.60
Best Case 0.3 81733.79 24520.14
$ 34,806.50

Std Dev
 4 5

$ 90,000.00 $ 90,000.00
-17500 0
$ 72,500.00 $ 90,000.00
-29000 -36000
$ 43,500.00 $ 54,000.00
17500 0
$ 61,000.00 $ 54,000.00

25000
23000
-9200
$ 61,000.00 $ 92,800.00

4 5

$ 108,000 $ 108,000
-17500 0
$ 90,500 $ 108,000
-36200 -43200
$ 54,300 $ 64,800
17500 0
$ 71,800 $ 64,800

25000
23000
-9200
71800 103600

4 5

$ 72,000 $ 72,000
 -17500 0
$ 54,500 $ 72,000
-21800 -28800
$ 32,700 $ 43,200
17500 0
$ 50,200 $ 43,200

25000
23000
-9200
50200 82000

4 5

$ 72,000 $ 72,000
-17500 0
$ 54,500 $ 72,000
-21800 -28800
$ 32,700 $ 43,200
17500 0
$ 50,200 $ 43,200

30000
18000
-7200
50200 84000

4 5

$ 108,000 $ 108,000
-17500 0
$ 90,500 $ 108,000
-36200 -43200
$ 54,300 $ 64,800
17500 0
$ 71,800 $ 64,800

20000
28000
-11200
71800 101600
Old Machine:
08 Years Old Machine
EBITD $ 24,000
New Machine:
Life
Cost $80,000
Estimated Useful Life (Years) 8
Salvage Value $0
MACRS 5-year class: 20%, 32%, 19%, 12%, 11%, and 6%.
Operations:
EBITD $46,000
Decline in Operating Expenses $1,500
Increase in Inventories $2,000
Increase in A/C Payable $500
Tax% 40%
WACC 10%
Cash Flow Estimates:
Life
Investement Outlays at Time 0
Cost of New Machine
Market Value of Old Machine

Cash Flows during life:

Incremental EBITD
Incremental Depreciation Expense (New Dep - Old Dep)
Operating Cash Flows
Tax 40%
After Tax Cash Flows
Add: Depreciation

Net Cash Flows

NPV
 0 1 2 3 4 5 6

-80000
0

-80000 $ 22,000 $ 22,000 $ 22,000 $ 22,000 $ 22,000 $ 22,000

(16,000) (25,600) (15,200) (9,600) (8,800) (4,800)
$ 6,000 $ (3,600) $ 6,800 $ 12,400 $ 13,200 $ 17,200
(2,400) 1,440 (2,720) (4,960) (5,280) (6,880)
$ 3,600 $ (2,160) $ 4,080 $ 7,440 $ 7,920 $ 10,320
16,000 25,600 15,200 9,600 8,800 4,800
$ 19,600 $ 23,440 $ 19,280 $ 17,040 $ 16,720 $ 15,120
$ (80,000) $ 19,600 $ 23,440 $ 19,280 $ 17,040 $ 16,720 $ 15,120
$ 13,784
 7 8

$ 22,000 $ 22,000
0 0
$ 22,000 $ 22,000
(8,800) (8,800)
$ 13,200 $ 13,200
0 0
$ 13,200 $ 13,200
$ 13,200 $ 13,200