Question

Question 3 Fastow Ltd, makers of plates, is considering also making spoons and has found a machine that would enable them to do so. This machine would be depreciated straight line, down to a book value of $20,000 over its entire useful life of ten years. Despite this, it is anticipated that the machine will be sold for $12,000 at the end of its useful life. Additional details of the project’s cash flows are tabulated below:

Cost of machine	$395,000
Delivery and installation charge of machine	$20,000
Annual revenue	$280,000
Annual operating costs	70% of generated revenue

In addition to the cash flow information, you have also been provided with the following details:

• The corporate tax rate is 30%;
• All tax is payable annually in arrears (i.e. tax is paid on profits one year after it is earned);
• Renovation costs associated with preparing the factory floor for the machine are $20,000, expensed immediately;
• Market research, required to obtain the information and figures provided above, was conducted at a cost of $15,750;
• The required rate of return on the project is unknown. However, the project is considered to be 35% riskier than the market portfolio, the expected return on the market is 10% p.a. compounded fortnightly and the six-month risk-free rate is 2.5%.

Given this information, calculate the net present value and state whether you recommend Fastow Ltd to purchase the machine?

Answer 1

	0 year	1	2	3	4	5	6	7	8	9	10	11
Cost of machine	-3,95,000
Installation Charge	-20,000
	-4,15,000
Annual Revenue		2,80,000	2,80,000	2,80,000	2,80,000	2,80,000	2,80,000	2,80,000	2,80,000	2,80,000	2,80,000
Less:Operaing Costs-70%		-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000	-1,96,000
Less:Depreciation		-37,500	-37,500	-37,500	-37,500	-37,500	-37,500	-37,500	-37,500	-37,500	-37,500
Profit		46,500	46,500	46,500	46,500	46,500	46,500	46,500	46,500	46,500	46,500
Less:Tax-30%			-13,950	-13,950	-13,950	-13,950	-13,950	-13,950	-13,950	-13,950	-13,950	-13,950
Add:Depreciation		37,500	37,500	37,500	37,500	37,500	37,500	37,500	37,500	37,500	37,500
Salvage Value-after tax(12000*70%)											8400
Cash Inflow		84,000	70,050	70,050	70,050	70,050	70,050	70,050	70,050	70,050	78,450	-13,950
Discount Factor-8.5%	1	0.922	0.849	0.783	0.722	0.665	0.613	0.565	0.521	0.480	0.442	0.408
Present Value	-415000	77,419	59,504	54,843	50,546	46,586	42,937	39,573	36,473	33,616	34,697	-5,687
Net Present Value	55508
NPV is Sum of present value
Note
Cost of Capital=Risk Free Rate+Risk(Expected Return)
(5%+35%*10%)	8.50%
Six month free interest Rate	2.50%
Annual Interest rate	5%
Cost of machine	395000
Book Value after 10 years	20000
Depreciation P a	37500					ekkarill92 Next > < Previous Related Solutions Question five: Decisions makers need information that is useful in making rational decisions, the decisions makers... Question five: Decisions makers need information that is useful in making rational decisions, the decisions makers are different and need different information, so every groups of users need different information, but accounting cant adopts the idea of producing a series of special- purpose report, instead that FASB and IAS adopt uniform report which contain information has several characteristics such as understandability, benefits costs, relevance and reliability, explain? Before considering question 2 and 3, the accounting profit and taxable income of Ivy Ltd for... 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