# Clean Chips is a manufacturer of prototype chips based in Dublin, Ireland. Next year, in 2015, Clean

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Clean Chips is a manufacturer of prototype chips based in Dublin, Ireland. Next year, in 2015, Clean Chips expects to deliver 535 prototype chips at an average price of $55,000. Clean Chipsâ€™ marketing vice president forecasts growth of 65 prototype chips per year through 2021. That is, demand will be 535 in 2015, 600 in 2016, 665 in 2017, and so on. The plant cannot produce more than 525 prototype chips annually. To meet future demand, Clean Chips must either modernize the plant or replace it. The old equipment is fully depreciated and can be sold for$ 4,300,000 if the plant is replaced. If the plant is modernized, the costs to modernize it are to be capitalized and depreciated over the useful life of the updated plant. The old equipment is retained as part of the modernize alternative. The following data on the two options are available:

Clean Chips uses straight-line depreciation, assuming zero terminal disposal value. For simplicity, we assume no change in prices or costs in future years. The investment will be made at the beginning of 2015, and all transactions thereafter occur on the last day of the year. Clean Chipsâ€™ required rate of return is 10%. There is no difference between the modernize and replace alternatives in terms of required working capital. Clean Chips has a special waiver on income taxes until 2021.

Required
1. Sketch the cash inflows and outflows of the modernize and replace alternatives over the 2015â€“2021 period.
2. Calculate payback period for the modernize and replace alternatives.
3. Calculate net present value of the modernize and replace alternatives.
4. What factors should Clean Chips consider in choosing between thealternatives?

Net Present Value
What is NPV? The net present value is an important tool for capital budgeting decision to assess that an investment in a project is worthwhile or not? The net present value of a project is calculated before taking up the investment decision at...
Payback Period
Payback period method is a traditional method/ approach of capital budgeting. It is the simple and widely used quantitative method of Investment evaluation. Payback period is typically used to evaluate projects or investments before undergoing them,...
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Related Book For

## Cost Accounting A Managerial Emphasis

ISBN: 978-0133428704

15th edition

Authors: Charles T. Horngren, Srikant M. Datar, Madhav V. Rajan

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