Jones Ltd. a food manufactureris considering purchasing a new machine for £275,000. The company is expectingan annual cash inflow of £85,000 from the sale of products and an annual cashoutflow of £12,500 for each of the six years of the machine’s useful life. Theannual cash outflows do not include annual depreciation charges for themachine. The machine is depreciated using the straight-line method. The machineis expected to last for six years, with a residual value estimated to be at therate of 15% of the original cost of the machine. The cost of capital for JonesLtd. is 12%.
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Purchase Cost = PC = £ 275, 000
Let us say that the company takes a load of this amount and starts manufacturing and sales of products.
Depreciation cost of machine per year = (100 - 15)/(6*100) * PC
DC = £ 85*2750/6 = 38, 958.33
CO = cash outflow = £ 12, 500
Cost of Capital = COC = £ 12% of PC = £ 33, 000
Net Debit at the end of each year = £ (38, 958.33 + 12, 500 + 33, 000)
= £ 84, 458.33
Cash Inflow at the end of each year: £ 85, 000
Net profit each year : £ 541.67
Net asset value of the purchased machine at the end of 6 years: 15% PC
= £ 41, 250
This will be a good proposition for the company to take up.
Let us say that the company takes a load of this amount and starts manufacturing and sales of products.
Depreciation cost of machine per year = (100 - 15)/(6*100) * PC
DC = £ 85*2750/6 = 38, 958.33
CO = cash outflow = £ 12, 500
Cost of Capital = COC = £ 12% of PC = £ 33, 000
Net Debit at the end of each year = £ (38, 958.33 + 12, 500 + 33, 000)
= £ 84, 458.33
Cash Inflow at the end of each year: £ 85, 000
Net profit each year : £ 541.67
Net asset value of the purchased machine at the end of 6 years: 15% PC
= £ 41, 250
This will be a good proposition for the company to take up.
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