Wilson Machine Tools, Inc., a manufacturer of fabricated metal products, is cons
ID: 2744723 • Letter: W
Question
Wilson Machine Tools, Inc., a manufacturer of fabricated metal products, is considering purchasing a high-tech computer-controlled milling machine at a cost of $95,000. The cost of installing the machine, preparing the site, wiring, and rearranging other equipment is expected to be $15,000. This installation cost will be added to the cost of the machine to determine the total cost basis for depreciation. Special jigs and tool dies for the particular product also will be required at a cost of $10,000. The milling machine is expected to last 10 years, the jigs and dies only five years. Therefore, another set of jigs and dies has to be purchased at the end of five years. The milling machine will have a $10,000 salvage value at the end of its life, and the special jigs and dies are worth only $300 as scrap metal at any time in their lives. The machine is classified as a seven-year MACRS property, and the special jigs and dies are classified as a three-year MACRS property. With the new milling machine, Wilson expects additional annual revenue of $80,000 due to increased production. The additional annual production costs are estimated as follows: materials, $9,000; labor, $15,000; energy, $4,500; and miscellaneous O&M costs, $3,000. Wilson’s marginal income-tax rate is expected to remain at 35% over the project life of 10 years. All dollar figures represent today’s dollars. The firm’s market interest rate is 15%, and the expected general inflation rate during the project period is estimated at 3.5%.
Management wants to know if this investment is worthwhile, assuming that the "do-nothing" alternative is feasible but of course generates no additional revenue or costs. Since they are Professional Engineers, they expect that you will conduct a rigourous engineering economic analysis. They also expect to see the following analysis included:
(1) Determination of cash flows in actual (non-inflation adjusted) dollars.
(2) Determination of the rate of return before taxes (no inflation).
(3) Determination of the rate of return after taxes (no inflation)
(4) Determination of cash flows in inflation adjusted dollars.
(5) Determination of the rate of return after taxes with inflation.
(6) A specific recommendation regarding whether or not to invest in the new equipment.
Explanation / Answer
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9
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Income Statement
Revenue
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
Expenses:
O&M
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
Labor
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
Material
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
Energy
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
Depreciation :
Building
Milling machine
$ 15,719
$ 26,939
$ 19,239
$ 13,739
$ 9,823
$ 9,812
$ 9,823
$ 4,906
$ 0
$ 0
Jigs & dies
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
Taxable Income
$ 29,448
$ 17,116
$ 27,780
$ 34,020
$ 38,677
$ 35,355
$ 34,232
$ 42,113
$ 47,759
$ 48,500
Income Taxes
$ 10,307
$ 5,991
$ 9,723
$ 11,907
$ 13,537
$ 12,374
$ 11,981
$ 14,740
$ 16,716
$ 16,975
Net Income
$ 19,141
$ 11,125
$ 18,057
$ 22,113
$ 25,140
$ 22,981
$ 22,251
$ 27,373
$ 31,043
$ 31,525
Cash Flow Statement
Cash from operation
Net Income
$ 19,141
$ 11,125
$ 18,057
$ 22,113
$ 25,140
$ 22,981
$ 22,251
$ 27,373
$ 31,043
$ 31,525
Depreciation
Building
Milling machine
$ 15,719
$ 26,939
$ 19,239
$ 13,739
$ 9,823
$ 9,812
$ 9,823
$ 4,906
$ 0
$ 0
Jigs & dies
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
Investment / Salvage
Building
Milling machine
-$ 110,000
$ 10,000
Jigs & dies
-$ 10,000
$ 300
(Replacement)
-$ 10,000
$ 300
Gains Taxes:
Building
Milling machine
-$ 3,500
Jigs & dies
-$ 105
-$ 105
-$ 120,000
$ 38,193
$ 42,509
$ 38,777
$ 36,593
$ 25,158
$ 36,126
$ 36,519
$ 33,760
$ 31,784
$ 38,220
PW (11.32%) $90,992 IRR (%) = 28.40%
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Income Statement
Revenue
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
$ 80,000
Expenses:
O&M
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
$ 3,000
Labor
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
$ 15,000
Material
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
$ 9,000
Energy
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
$ 4,500
Depreciation :
Building
Milling machine
$ 15,719
$ 26,939
$ 19,239
$ 13,739
$ 9,823
$ 9,812
$ 9,823
$ 4,906
$ 0
$ 0
Jigs & dies
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
Taxable Income
$ 29,448
$ 17,116
$ 27,780
$ 34,020
$ 38,677
$ 35,355
$ 34,232
$ 42,113
$ 47,759
$ 48,500
Income Taxes
$ 10,307
$ 5,991
$ 9,723
$ 11,907
$ 13,537
$ 12,374
$ 11,981
$ 14,740
$ 16,716
$ 16,975
Net Income
$ 19,141
$ 11,125
$ 18,057
$ 22,113
$ 25,140
$ 22,981
$ 22,251
$ 27,373
$ 31,043
$ 31,525
Cash Flow Statement
Cash from operation
Net Income
$ 19,141
$ 11,125
$ 18,057
$ 22,113
$ 25,140
$ 22,981
$ 22,251
$ 27,373
$ 31,043
$ 31,525
Depreciation
Building
Milling machine
$ 15,719
$ 26,939
$ 19,239
$ 13,739
$ 9,823
$ 9,812
$ 9,823
$ 4,906
$ 0
$ 0
Jigs & dies
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
$ 3,333
$ 4,445
$ 1,481
$ 741
$ 0
Investment / Salvage
Building
Milling machine
-$ 110,000
$ 10,000
Jigs & dies
-$ 10,000
$ 300
(Replacement)
-$ 10,000
$ 300
Gains Taxes:
Building
Milling machine
-$ 3,500
Jigs & dies
-$ 105
-$ 105
-$ 120,000
$ 38,193
$ 42,509
$ 38,777
$ 36,593
$ 25,158
$ 36,126
$ 36,519
$ 33,760
$ 31,784
$ 38,220
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