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 $580,000 cost with an expected four-year life and a $30,000 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.)

Expected annual sales of new product	$	2,090,000
Expected annual costs of new product
Direct materials		490,000
Direct labor		682,000
Overhead (excluding straight-line depreciation on new machine)		436,000
Selling and administrative expenses		170,000
Income taxes		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.)

• Required 2
• Required 3
• Required 4
• Required 5

Compute straight-line depreciation for each year of this new machine’s life.

	Straight-line depreciation

Complete this question by entering your answers in the tabs below.

• Required 1
• Required 2
• Required 3
• Required 4
• Required 5

Determine expected net income and net cash flow for each year of this machine’s life.

	Expected Net Income Revenues Expenses Expected Net Cash Flow

• Compute this machine’s payback period, assuming that cash flows occur evenly throughout each year.

  	Payback Period Choose Numerator: / Choose Denominator: = Payback Period / = Payback period =

Compute this machine’s accounting rate of return, assuming that income is earned evenly throughout each year.

	Accounting Rate of Return Choose Numerator: / Choose Denominator: = Accounting Rate of Return / = Accounting rate of return

• 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.) (Do not round intermediate calculations. Amounts to be deducted should be indicated by a minus sign.)

  	Chart Values are Based on: n = i = Cash Flow Select Chart Amount x PV Factor = Present Value Annual cash flow = Residual value = Net present value

Answer 1

1) Straight line depreciation per year = (Cost - Salvage Value)/Useful life in yrs

= ($580,000 - $30,000)/4 yrs = $137,500 per year

Therefore straight line depreciation is $137,500 per year.

2) Calculation of Expected Net income and Net cash flow (Amounts in $)

Expected Net Income
Revenues
Expected Annual Sales of new product (A)		2,090,000
Expenses
Direct materials	490,000
Direct labor	682,000
Overhead (excluding straight-line depreciation)	436,000
Straight line depreciation	137,500
Selling and administrative expenses	170,000
Total expenses (except income tax) (B)		1,915,500
Income before Tax (C = A-B)		174,500
Income tax (D= C*30%)		52,350
Expected Net Income after tax (C-D)		122,150
Expected Net Cash Flow
Expected Net Income after tax	122,150
Straight line depreciation	137,500
Expected net cash flow		259,650

Therefore expected net income and net cash flow for each year of this machine’s life is $122,150 and $259,650 respectively.

3) Payback Period = Cost of new machine/Expected net cash inflow

= $580,000/$259,650 = 2.23 yrs

4) Accounting Rate of return = Expected annual net income/Average investment cost

Average investment cost = (Cost of machine+Salvage Value)/2

= ($580,000+$30,000)/2 = $305,000

Accounting Rate of return = $122,150/$305,000 = 40.05%

5) Calculation of Net Present Value (Amounts in $)

Chart Values are Based on:
	n = 4
	i = 4%
Cash Flow	Select Chart	Amount	x	PV Factor	=	Present Value
Annual cash flow	PVAF	259,650	x	3.6299	=	942,504
Residual value	PVF	30,000	x	0.8548	=	25,644
	Total cash inflows					968,148
	Initial cost of new machine					(580,000)
	Net present value					388,148

Therefore net present value is $388,148 (approx).