Problem: The Apple company is considering a machine to reduce operation costs. The machine costs $2B.
If bought, the machine will reduce the cost of goods sold by $1B a year (before tax) for the next 3 years. The machine will also reduce the firm's required working capital by $0.275B immediately. At the end of the use of the machine, this amount of working capital will be released. Apple is expected to use the machine for only 3 years. Then it intends to sell it for $0.5B. The machine, however, can be fully depreciated for tax purposes over 1 year.
Apple's tax rate is 30%, and its opportunity cost of capital is 9.5%.
a. Calculate the Free Cash Flow of each period for the investment project.
b. What should be your recommendation? Should Apple buy the machine?