Canvas Reproductions, Inc., has spent $4,500 dollars researching a new project. The project requires $20,000 worth of new machinery, which would cost $3,000 to install. The company would realize $4,500 in after-tax proceeds from the sale of old machinery. If Canvass working capital is unaffected by this project, what is the initial investment amount for this project?
Initial Investment Cost:
Initial investment cost includes the cost of the equipment plus any other associated costs which are necessary for bringing the asset into operations. Sunk costs are not included in the calculation of initial cost because they do not impact investment decision.
Answer and Explanation:
The initial investment amount is calculated as,
- Initial investment = Cost of machine + Installation cost - Salvage value of old machine
- Initial investment = $20,000 + $3,000 - $4,500
- Initial investment = $18,500
N.B $4,500 is a sunk cost
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from Finance 101: Principles of FinanceChapter 10 / Lesson 1