Hello cramster experts, I need help with the following project: Clark Paints: Th

Question

Hello cramster experts,

I need help with the following project:

Clark Paints: The production department has been investigating possible ways to trim total production costs. One possibility currently being examined is to make the paint cans instead of purchasing them. The equipment needed would cost $200,000, with a disposal value of $40,000, and it would be able to produce 5,500,000 cans over the life of the machinery. The production department estimates that approximately 1,100,000 cans would be needed for each of the next five years.

The company would hire three new employees. These three individuals would be full-time employees working 2,000 hours per year and earning $12.00 per hour. They would also receive the same benefits as other production employees, 18% of wages, in addition to $2,500 of health benefits.

It is estimated that the raw materials will cost 25¢ per can and that other variable costs would be 5¢ per can. Since 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 45¢ each if purchased from the current supplier. The company's minimum rate of return (hurdle rate) has been determined to be 12% for all new projects, and the current tax rate of 35% is anticipated to remain unchanged. The pricing for a gallon of paint, as well as the 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:
o Annual cash flows over the expected life of the equipment
o Payback period
o Annual rate of return
o Net present value
o Internal rate of return

2. Would you recommend the acceptance of this proposal? Why or why not? Prepare a short double-spaced Word paper elaborating and supporting your answer.

Please show all formulas and all calculations.

Please summarize the strengths and weaknesses of any recommendations.

Thank you.

Explanation / Answer

o Annual cash flows over the expected life of the equipment
   
   Cost of purchase 1,100,000 x $0.45               $495,000
   Total Annual Production cost
    ========================
    Variable cost (raw materials + other VC)
           1,100,000 x $0.30                                     $330,000
    Employee cost
     (24,000x3 + 24000x3x18% + 2,500 x 3)              $92,460
    Total annual production cost                         $422,460
    Annual cash flow before tax (495T - 422.46T) $72,540
    Less : Depreciation
       $160,000 x 1.1M / 5.5M                                 $32,000
   Income before tax                                           $40,540
    Less: Income tax $40,540 x 35%                        $14,189
Net Income after tax                                         $26,351
Add : Depreciation                                              $32,000
Annual cash flow after tax                                 $58,351
                                                                        ========
o Payback period
   Cost of invetment / Annual cash flow after tax
   = $200,000 / $58,351 = 3.43 years

o Annual rate of return
Net income after tax / Cost of investment
= $26,351 / $200,000 = 13.18%

o Net present value
   Net Present value of annual cash flow @12%
                           $58,351 x 3.6048               =   $210,344
   Net present value of salvage value @ 12%
         $40,000 x 0.5674                                  =   $22,696
   Total NPV                                                       $233,040
    Less : Cost of investment                              $200,000
    Net NPV                                                       $33,040
                                                                      ========

Related Questions

Navigate

• Browse (All)
• Browse H
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.