Very Fancy Foods hires homeless workers from the local church and the area shelt

Question

Very Fancy Foods hires homeless workers from the local church and the area shelters to assist in the packaging of its gourmet frozen meals. This procession is all done by hand, at a cost of $60,000 per year (which would be eliminated with the machine.) A machine is available that could be used in place of the homeless workers. The machine would cost $140,000 and have a 10-year useful life. It would require an operator at an annual cost of $28,000. Annual maintenance costs will be $8,000 in years 1, 2, 3, 4 and then climb to $12,500 in years 5-10. The machine will be sold in 10 years at an expected price of $50,000.

For tax purposes, the company computes depreciation deductions assuming zero salvage value and uses straight-line depreciation. The machine would be depreciated over 7 years years. Management requires a 9% after-tax return on all equipment purchases. The company’s tax rate is 30%. Use this information to answer the questions below.

1)Compute the machine’s net present value and internal rate of return.

2) Should they buy the machine?

Explanation / Answer

Very Fancy Foods Year Initial Investment Procession by hand cost Tax saving on procession by hand cost After tax procession by hand cost -A Operating cost annual maintenance cost Depreciation Total cost Tax Saving on cost After tax cost - Depreciation After tax and after deducting depreciation cash flow Saving in after tax cost compared to procession by hand cost PVIF@9% Present Value 0 140000 -140000 -140000 1 -140000 1 60000 18000 42000 28000 8000 20000 56000 16800 39200 20000 19200 22800 0.917431 20917 2 60000 18000 42000 28000 8000 20000 56000 16800 39200 20000 19200 22800 0.84168 19190 3 60000 18000 42000 28000 8000 20000 56000 16800 39200 20000 19200 22800 0.772183 17606 4 60000 18000 42000 28000 8000 20000 56000 16800 39200 20000 19200 22800 0.708425 16152 5 60000 18000 42000 28000 12500 20000 60500 18150 42350 20000 22350 19650 0.649931 12771 6 60000 18000 42000 28000 12500 20000 60500 18150 42350 20000 22350 19650 0.596267 11717 7 60000 18000 42000 28000 12500 20000 60500 18150 42350 20000 22350 19650 0.547034 10749 8 60000 18000 42000 28000 12500 40500 12150 28350 0 28350 13650 0.501866 6850 9 60000 18000 42000 28000 12500 40500 12150 28350 0 28350 13650 0.460428 6285 10 -50000 60000 18000 42000 28000 12500 -9500 -2850 -6650 0 -6650 48650 0.422411 20550 Requirement 1 part 1 Net present Value      = 2788 Requirement 1 part 2 IRR         = 9.44% Requirement 2 Since Net present Value is positive and IRR is more than management's requirement, they should buy the machine Excuse me as horizental lentgh has exceeded to some extent but its necessary to explain the solution. Thank you

Related Questions

Navigate

• Browse (All)
• Browse V
• Subjects

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