Question

Factor Company is planning to add a new product to its line. To manufacture this product, the company needs to buy a new machine at a $500,000 cost with an expected four-year life and a $22,000 salvage value. All sales are for cash, and all costs are out-of-pocket, except for depreciation on the new machine. Additional information includes the following. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided. Round PV factor value to 4 decimal places.) $1,890,000 Expected annual sales of new product Expected annual costs of new product Direct materials Direct labor Overhead (excluding straight-line depreciation on new machine) Selling and administrative expenses Income taxes 482,000 674,000 356,000 162,000 30% Required: 1. Compute straight-line depreciation for each year of this new machine's life. 2. Determine expected net income and net cash flow for each year of this machine's life. 3. Compute this machine's payback period, assuming that cash flows occur evenly throughout each year. 4. Compute this machine's accounting rate of return, assuming that income is earned evenly throughout each year. 5. Compute the net present value for this machine using a discount rate of 4% and assuming that cash flows occur at each year-end. (Hint: Salvage value is a cash inflow at the end of the asset's life.) Complete this question by entering your answers in the tabs below.

Answer 1

1.Straight Line Depreciation

Straight Line Depreciation for each year = [Cost of the machine – Salvage Value] / Useful life

= [$500,000 - $22,000] / 4 Years

= $478,000 / 4 Years

= $119,500 per year

2.Expected Net Income and Net cash Flow

EXPECTED NET INCOME		Amount ($)
Revenues
Sales		18,90,000
Expenses
Direct Materials	4,82,000
Direct Labor	6,74,000
Overhead	3,56,000
Straight Line Depreciation	1,19,500
Selling and administrative	1,62,000	17,93,500
Income Before Taxes		96,500
Income Tax Expense at 30%		28,950
Net Income		67,550
EXPECTED CASH FLOW
Net Income		67,550
Add: Straight Line Depreciation		119,500
Expected Cash Flow		187,050

3.Payback Period

Payback Period
Numerator	/	Denominator	=	Payback Period
Initial Investment	/	Annual Net Cash Flow	=	Payback Period
$500,000	/	$187,050	=	2.67 Years

4.Accounting Rate of return

Accounting Rate of return
Numerator	/	Denominator	=	Accounting Rate of return
Net Income	/	Annual average Investment	=	Accounting Rate of return
$67,550	/	$261,000	=	25.88%

Annual average Investment = [Initial Investment + Salvage Value] / 2

= [$500,000 + $22,000] / 2

= $522,000 / 2

= $261,000

Requirement 5 –Net Present Value

Chart values are based on
	n =	4 Years
	i =	4.00%
Cash flow	Select chart	Amount	PV Factor	Present Value
Annual cash flow	Present value of annuity of $1	$187,050	3.6299	$678,973
Residual Value	Present Value of $1	$22,000	0.8548	$18,806
	Present Value of cash inflows			$697,779
	Present Value of cash outflows			$500,000
	Net Present Value			$197,779

NOTE

-The formula for calculating the Present Value Annuity Inflow Factor (PVIFA) is [{1 - (1 / (1 + r)n} / r], where “r” is the Discount Rate/Cost of capital and “n” is the number of years.

-The formula for calculating the Present Value Inflow Factor (PVIF) is [1 / (1 + r)n], where “r” is the Discount Rate/Cost of capital and “n” is the number of years.