Co is considering to buy a new piece of equipment for $220,000. It has an eight-year midpoint of its asset depreciation range (ADR). It will require and additional initial investment of $120,000 in non depreciable working capital. $30,000 of this investment will be recovered after the sixth year and will provide additional cash flow for that year. Income before depreciation and taxes for the next six years will be:
Year Amount
1 $170,000
2 150,000
3 120,000
4 105,000
5 90,000
6 80,000
The tax rate is 30%. The cost of capital must be computed based on the following (round the final value to the nearest whole number):
Cost (after tax) Weights
Debt Kd 6.5% 30%
Preferred stock Kp 10.2 10
Common equity (retained earnings) Ke 15.0 60
a) Determine the annual depreciation schedule
b) Determine annual cash flow. Incl. recovered working capital in the sixth year
c) Determine the weighted average cost of capital
d) Determine the net present value should they buy new equipment
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SOLUTION PREVIEW
|
Year
|
Investment
|
Working capital
|
Income before
depreciation and taxes
|
Depreciation
|
Profit before taxes
|
Taxes
|
Profit after taxes
|
Cash flow after taxes
(PAT + Depreciation)
|
|
0
|
-220,000
|
-120,000
|
-340,000
|
|||||
|
1
|
170,000
|
27,500
|
142,500
|
42750
|
99,750
|
99,750
|
||
|
2
|
150,000
|
27,500
|
122,500
|
36750
|
85,750
|
85,750
|
