Review of Capital Budgeting
1. The Kramer Tool Company has a photocopying machine that it purchased two years ago for $70,000. The machine is being depreciated straight line over 5 years to a zero salvage value. A competing firm is offering a new photocopying machine that cost $60,000 and can be depreciated over 5 years to a zero salvage value. Kramer has been assured that the new machine can be sold for $10,000 after five years. The new machine requires less maintenance and operator attendance and would result in cost savings of $20,000 annually. The firm selling the new machine has agreed to find a buyer who would pay $30,000 for the old machine. The discount rate is 9% and the tax rate is 48%. Should Kramer replace the old machine with the new one? Support your answer with appropriate calculations.
2. Kamal Copies (KC) may buy a high volume machine that sells widgets. The machine costs $100,000 and will be depreciated straight line over five years to a salvage value of $25,000. KC anticipates that the machine can actually be sold in five years for $36,000. The machine will generate sales of $75,000 in year1 and sales will decline by $5,000 a year until year 5. Expenses are 58% of sales. The working capital position in the balance sheet is $10,000 in year 0, $12,000 in year 1, $16,000 in year 2 till the end of year 4. The working capital will be released at the end of the project. The marginal tax rate is 35% and the discount rate is 10%.
a. Please calculate the NPV of the project?
b. Please calculate the IRR of the project?
c. Should KC buy the machine?
3. Hasnain’s Fashions can invest $6 million in a new plant for producing invisible makeup. The plant has an expected life of 5 years, and expected sales are 7 million jars of makeup a year. Fixed costs are $2.5 million a year, and variable costs are $1.1 per jar. The product will be priced at $1.98 per jar. The plant will be depreciated straight-line over 5 years to a salvage...
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