Question 1: Net Salvage Value
Allen Air Lines is now in the terminal year of a project. The equipment originally cost $12 million, of which 75% has been depreciated. Carter can sell the used equipment today to another airline for $4 million, and its tax rate is 40%. What is the equipment's after-tax net salvage value?
Question 2: New-Project Analysis
The Campbell Company is evaluating the proposed acquisition of a new milling machine. The machine's base price is $1,080,000, and it would cost another $22,500 to modify it for special use. The machine falls into the MACRS 3-year class, and it would be sold after 3 years for $605,000. The MARCS rate for the first three years are 0.333, 0.445, and 0.1481. The machine would require an increase in net working capital (inventory) of $15,500. The sprayer would not change revenues but it is expected to save the firm $380,000 per year in before-tax operating cost, mainly labor. Campbell's marginal tax rate is 35%.
a. What is the year-0 net cash flow?
b. What are the net operating cash flows in Years 1,2, and 3?
c. What is the additional Year-3 cash flow (i.e., the after-tax salvage and the return of working capital)?
d. If the project's cost of capital is 12%, should the machine be purchased?