The president of Lowell Inc has asked you to evaluate the pr

The president of Lowell Inc. has asked you to evaluate the proposed acquisition of a new computer. The computer’s price is $60,000, and it falls into the MACRS 3-year class (33% in year 1, 45% in year 2, 15% in year 3, and 7% in year 4). Purchase of the computer would require an increase in net operating working capital of $2,000. The computer would increase the firm’s before-tax revenues by $20,000 per year but would also increase operating costs by $5,000 per year. The computer is expected to be used for 4 years and then be sold for $25,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 14 percent. What is the total value of the terminal year non-operating cash flows (after-tax value + working capital recovered) at the end of Year 4?

Solution

After tax cash flows from sale of asset:

= $25,000×(1-40%)

= $15,000

Recovery of working capital:

= $2,000

Total non-operating cash flows = $17,000 ($15,000+$2,000)