Chapter 3 P1: Stephen Company is evaluating a capital investment proposal for new office equipment for the...

Free

50.1K

Verified Solution

Question

Accounting

Chapter 3 P1:
Stephen Company is evaluating a capital investment proposal fornew office equipment for the current year. The initial investmentwould require the company to spend $50,000. The equipment would bedepreciated on a straight line basis over five years with nosalvage value. The company has estimated the before-tax annual cashinflow from the investment to be $15,000. The income tax rate is40% and all taxes are paid in the year that the related cash flowsoccur. All cash flows occur at year end.
Determine the NPV of the capital investment proposal at 15%, thedesired after-tax rate of return. Should the proposal be acceptedor not accepted? Explain.

Answer & Explanation Solved by verified expert

3.6 Ratings (254 Votes)

Depreciation = [cost-salvage value ]/useful life

= [50000-0]/5

= $ 10000

Income before tax = before tax annual cash inflow - depreciation

= 15000 - 10000

= 5000

Income after tax = 5000[1-.40] = 3000

Annual cash flow (after tax ) = Income after tax +depreciation

= 3000+ 10000

= 13000

Present value of annual cash flow =PVA 15%,5* Annual cash flow (after tax)

= 3.35216* 13000

= $ 43578.08

NPV = Present value- Initial investment

= 43578.08 - 50000

= - 6421.92

since NPV is negative ,proposal should not be accepted.

Get Answers to Unlimited Questions

Join us to gain access to millions of questions and expert answers. Enjoy exclusive benefits tailored just for you!

Membership Benefits:

Unlimited Question Access with detailed Answers
Zin AI - 3 Million Words
10 Dall-E 3 Images
20 Plot Generations
Conversation with Dialogue Memory
No Ads, Ever!
Access to Our Best AI Platform: Flex AI - Your personal assistant for all your inquiries!

Become a Member

Transcribed Image Text

Chapter 3 P1:Stephen Company is evaluating a capital investment proposal fornew office equipment for the current year. The initial investmentwould require the company to spend $50,000. The equipment would bedepreciated on a straight line basis over five years with nosalvage value. The company has estimated the before-tax annual cashinflow from the investment to be $15,000. The income tax rate is40% and all taxes are paid in the year that the related cash flowsoccur. All cash flows occur at year end.Determine the NPV of the capital investment proposal at 15%, thedesired after-tax rate of return. Should the proposal be acceptedor not accepted? Explain.