1.            Toni Kroos owns the hip hop lable and needs a new recording machine as technology is quickly changing.

2.            The best machines are available in England. Toni decides to visit England to determine which machine to purchase. The cost of this trip was $22,000. Based on the trip he will purchase the Mendez 100. Once the decision is made to purchase, he will need to travel to England to undertake training. This will cost $18,000. Both trips are tax deductible in year 0.

3.            The Mendez 100 will cost $2,650,000 and should be able to be sold for $120,000. The accountant has advised that the machine will be depreciated over 10 years. The ATO however requires depreciation over 12 years. It is expected that the machine will be kept for 5 years by hip hop lable so any evaluation must be undertaken over a 5-year period. The accountant is adamant that depreciation will need to be over 10 years for analysing this project.

4.            Toni will need to borrow 90% of the value of the Mendez 100 from the Eastern Bank. The loan will be at a fixed rate of 19% p.a. over 15 years, with interest only payable at the end of each year. The principal is repayable at the end of the fifth year.

5.            The old machine was purchased three years ago and at that time was expected to have an economic life of 5 years. It cost $280,000 and Toni has been depreciating it using straight-line depreciation over 5 years as required by the ATO. Toni expects he will receive $60,000 if he sells the old machine. It is expected to be sold in period 0 if the new machine is purchased.

6.            The Mendez machine is state-of-the-art, and much more efficient than the old machine. The old machine costs $1,350,000 per annum to operate, whereas the new machine will only cost about $275,000 per annum to operate.

7.            Due to the different way Mendez operates, it will be necessary to purchase an additional $24,000 of inventory in year 0.

8.            Toni will need fewer staff because of the new machine. This will require a payout of $220,000 in year 0 and save wages of $92,000 per year. These amounts are tax-deductible.

9.            All cash flows are given in nominal terms.

10.          The nominal rate of interest currently in the economy is 8% and inflation is 4%. The real rate of interest is 3.85% and the WACC is 16%

11.          The corporate tax rate is 7%. Assume tax is paid in the year of income.

12.          The new machine will generate yearly revenue of $14m while the old machine was only able to generate annual revenue of $1.9m.

13.          Assume that all incremental revenues (as identified in line 12 above) and expenses (as identified in line 6 above) continue to year 5. 

That is, include these incremental amounts in your calculation in question 8.

1) What amount (before taxes) of the trip to Canada should be included when undertaking the NPV analysis?

2) The after-tax impact from Eastern Bank to be included in the NPV calculation is:

3) The depreciation tax shield (tax benefit per annum) for the new machine is

4) The lost depreciation tax shield (tax benefit per annum) for the old machine is in year 5 is:

5) Janice must purchase additional inventory. The cash flow impact of this in year 0 will be?

6) The Cash Flow in period 0 is:

7) The appropriate discount rate to use in deciding whether Janice should buy the new machine is.

8) The Free Cash Flow in year 5 is:

Answer rating: 100% (QA)

The full cost of the trip to England which is 22000 should be included in the NPV analysis The aftertax impact from Eastern Bank to be included in the NPV calculation can be calculated as follows Loan ... View the full answer