Answer to Question #200246 in Economics for Junaid Ahmed

Question

Thoma Pharmaceutical Company may buy DNA testing equipment costing $60,000. This

equipment is expected to reduce the labor costs of clinical staff by $20,000 annually. The

equipment has a useful life of five years but falls in the three-year property class for cost

recovery (depreciation) purposes. No salvage value is expected at the end. The corporate

tax rate for Thoma is 38 percent (combined federal and state), and its required rate of

return is 15 percent. (If profits after taxes on the project are negative in any year, the firm

will offset the loss against other firm income for that year.) On the basis of this information,

what is the net present value of the project? Is it acceptable?

Answer 1

Since the cost of the equipment is $ 60,000, and the reduction in labor costs of personnel is expected to be 20,000 dollars annually, after 5 years of operation, the net cost will be minus $ 40,000.