Dickinson Brothers, Inc., is considering investing in a machine to produce compu
ID: 2756628 • Letter: D
Question
Dickinson Brothers, Inc., is considering investing in a machine to produce computer keyboards. The price of the machine will be $986,000, and its economic life is five years. The machine will be fully depreciated by the straight-line method. The machine will produce 31,000 keyboards each year. The price of each keyboard will be $30 in the first year and will increase by 4 percent per year. The production cost per keyboard will be $10 in the first year and will increase by 5 percent per year. The project will have an annual fixed cost of $206,000 and require an immediate investment of $36,000 in net working capital. The corporate tax rate for the company is 35 percent. The appropriate discount rate is 12 percent.
What is the NPV of the investment? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))
NPV
$
Suppose we are thinking about replacing an old computer with a new one. The old one cost us $1,320,000; the new one will cost, $1,580,000. The new machine will be depreciated straight-line to zero over its five-year life. It will probably be worth about $320,000 after five years.
The old computer is being depreciated at a rate of $264,000 per year. It will be completely written off in three years. If we don’t replace it now, we will have to replace it in two years. We can sell it now for $440,000; in two years, it will probably be worth $122,000. The new machine will save us $292,000 per year in operating costs. The tax rate is 35 percent, and the discount rate is 10 percent.
a.1
Calculate the EAC for the old computer and the new computer. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations and round your final answers to 2 decimal places. (e.g., 32.16))
EAC
New computer
$
Old computer
$
a.2
What is the NPV of the decision to replace the computer now? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))
NPV
$
Dickinson Brothers, Inc., is considering investing in a machine to produce computer keyboards. The price of the machine will be $986,000, and its economic life is five years. The machine will be fully depreciated by the straight-line method. The machine will produce 31,000 keyboards each year. The price of each keyboard will be $30 in the first year and will increase by 4 percent per year. The production cost per keyboard will be $10 in the first year and will increase by 5 percent per year. The project will have an annual fixed cost of $206,000 and require an immediate investment of $36,000 in net working capital. The corporate tax rate for the company is 35 percent. The appropriate discount rate is 12 percent.
Explanation / Answer
Net present value of project = Present value of cash Inflow - Present value of cash outflow
= $1,318,799.57 - $1,022,000
Present value of cash outflow
Particulars
(at Y= 0) Amount
Machine Cost
$986,000
Working capital
$36,000
PVF (Y=0)
1
Present value of cash outflow
$1,022,000
Present value of cash Inflow
Particulars
Y=1
Y=2
Y=3
Y=4
Y=5
Sale units
31,000
31,000
31,000
31,000
31,000
Sale price
30
31.2
32.45
33.75
35.10
Cost
10
10.5
11.025
12.13
12.73
Contribution per unit
20
20.7
21.425
21.62
22.37
Contribution (in $)
$ 620000
$ 641700
$ 664175
$ 670220
$ 693470
Less fixed cost
$206,000
$206,000
$206,000
$206,000
$206,000
EBT and depreciation (a)
$414,000
$435,700
$458,175
$464,220
$487,470
Less depreciation
197200
197200
197200
197200
197200
EBT
$216,800
$238,500
$260,975
$267,020
$290,270
Less: tax (b)
$75,880
$83,475
$91,341
$93,457
$101,595
EAT (a-b)
$338,120
$352,225
$366,834
$370,763
$385,876
Less- working capital
$36,000
Cash inflow
$338,120
$352,225
$366,834
$370,763
$421,876
PVF (12%)
0.893
0.797
0.712
0.636
0.567
PV of cash inflow
$301,892.86
$280,791.61
$261,105.02
$235,626.59
$239,383.49
Present value of cash Inflow= 1318799.57
Particulars
(at Y= 0) Amount
Machine Cost
$986,000
Working capital
$36,000
PVF (Y=0)
1
Present value of cash outflow
$1,022,000
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