Hampton Company: The production department has been investigating possible ways
ID: 2420611 • Letter: H
Question
Hampton Company: The production department has been investigating possible ways to trim total production costs. One possibility currently being examined is to make the cans instead of purchasing them. The equipment needed would cost $1,000,000, with a disposal value of $200,000, and would be able to produce 27,500,000 cans over the life of the machinery. The production department estimates that approximately 5,500,000 cans would be needed for each of the next 5 years.
The company would hire six new employees. These six individuals would be full-time employees working 2,000 hours per year and earning $15.00 per hour. They would also receive the same benefits as other production employees, 15% of wages in addition to $2,000 of health benefits.
It is estimated that the raw materials will cost 30¢ per can and that other variable costs would be 10¢ per can. Because there is currently unused space in the factory, no additional fixed costs would be incurred if this proposal is accepted.
It is expected that cans would cost 50¢ each if purchased from the current supplier. The company's minimum rate of return (hurdle rate) has been determined to be 11% for all new projects, and the current tax rate of 35% is anticipated to remain unchanged. The pricing for the company’s products as well as number of units sold will not be affected by this decision. The unit-of-production depreciation method would be used if the new equipment is purchased.
Required:
1. Based on the above information and using Excel, calculate the following items for this proposed equipment purchase.
Annual cash flows over the expected life of the equipment
Payback period
Simple rate of return
Net present value
Internal rate of return
The check figure for the total annual after-tax cash flows is $271,150.
2. Would you recommend the acceptance of this proposal? Why or why not? Prepare a short, double-spaced paper in MS Word elaborating on and supporting your answer.
Explanation / Answer
Payback period is 3 yra and 68 days
=47501.1 * 365/ 256756.87
=68 Days
IRR using excel is IRR(-1000000,351148.64,316350.13,285000.12,256756.86,308461.164) = 16.40%
The check figure for the total annual after-tax cash flows is $271,150
Project will not be acceptede if the total annual after-tax cash flows is $271,150.
The equipment needed would cost $1,000,000, with a disposal value of $200,000, . able to produce 27,500,000 cans over the life of the machinery. Annual Requirement 5,500,000 cans would be needed for each of the next 5 years New employee =2000 Hours wages Total 2000 15 30000 Hours wages 15% benefit 2000 30000 4500 Other Benefit = 2000 Salary andother benefi = 30000+4500+2000 36500 Depriciation = 1000000-20000 /27500000 * 5500000 16000 Year Cost if purchaseOutside @50C Investmnet
cost Depriciation Salary and
other benefit Raw material
Cost 30C Variable cost
@10C Total Cost Saving in cost Saving in cost afetr tax 0 1000000 1000000 -1000000 -1000000 1 2750000 160000 36500 165000 550000 911500 1838500 1195025 2 2750000 160000 36500 165000 550000 911500 1838500 1195025 3 2750000 160000 36500 165000 550000 911500 1838500 1195025 4 2750000 160000 36500 165000 550000 911500 1838500 1195025 5 2750000 160000 36500 165000 550000 911500 1838500 1195025 Year Saving in
cost afetr tax Salvage
vaue aftet tax Total PV factor @11% 0 1000000 1000000 1 1000000 1 1195025 1195026 0.9009009 1076600 2 1195025 1195027 0.8116224 969910.7 3 1195025 1195028 0.7311914 873794.2 4 1195025 1195029 0.658731 787202.6 5 1195025 130000 1325030 0.5934513 786340.8 5493848
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