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IMANET CMA Exam - Topic 1 Question 20 Discussion
Topic #: 1
The Moore Corporation is considering the acquisition of a new machine. The machine can be purchased for $90,000; twill cost $6,000 to transport to Moore's plant and $9,000 to install. It is estimated that the machine will last 10 years, and it is expected to have an estimated salvage value of $5,000. Over its 10-year life, the machine is expected to produce 2,000 units per year with a selling price of $500 and combined material and labor costs of $450 per unit. Federal tax regulations permit machines of this type to be depreciated using the straight-line method over 5 years with no estimated salvage value. Moore ha a marginal tax rate of 40%. What is the net cash flow for the tenth year of the project that Moore Corporation should use in a capital budgeting analysis?
The company will receive net cash inflows of $50 per unit ($500 selling price --- $450 of variable costs), or a total of $100,000 per year. This amount will be subject to taxation, as will the $5,000 gain on sale of the investment, bringing taxable income to $105,000. No depreciation will be deducted in the tenth year because the asset was fully depreciated after 5 years. Because the asset was fully depreciated (book value was zero), the $5,000 salvage value received would be fully taxable. After income taxes of $42,000 ($105,000 x 40%), the net cash flow in the tenth year is $63,000 ($105,000 ---$42,000).
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