A bicycle manufacturer currently produces 310,000 units a year and expects output levels to remain steady in
Question:
A bicycle manufacturer currently produces 310,000 units a year and expects output levels to remain steady in the future. It buys chains from an outside supplier at a price of $2.10 a chain. The plant manager believes that it would be cheaper to make these chains rather than buy them. Direct in-house production costs are estimated to be only $1.40 per chain. The necessary machinery would cost $229,000 and would be obsolete after 10 years. This investment could be depreciated to zero for tax purposes using a 10-year straight-line depreciation schedule. The plant manager estimates that the operation would require additional working capital of $44,000 but argues that this sum can be ignored since it is recoverable at the end of the 10 years. Expected proceeds from scrapping the machinery after 10 years are $17,175. If the company pays tax at a rate of 35% and the opportunity cost of capital is 15%, what is the net present value of the decision to produce the chains in-house instead of purchasing them from the supplier?
Project the annual free cash flows (FCF) of buying the chains.
The annual free cash flows for years 1 to 10 of buying the chains is $ ______. (Round to the nearest dollar. Enter a free cash outflow as a negativenumber.)
Compute the NPV of buying the chains from the FCF. The NPV of buying the chains from the FCF is $______. (Round to the nearest dollar. Enter a negative NPV as a negativenumber.)
Compute the initial FCF of producing the chains. The initial FCF of producing the chains is $______. (Round to the nearest dollar. Enter a free cash outflow as a negativenumber.)
Compute the FCF in years 1 through 9 of producing the chains. The FCF in years 1 through 9 of producing the chains is $______. (Round to the nearest dollar. Enter a free cash outflow as a negativenumber.)
Compute the FCF in year 10 of producing the chains. The FCF in year 10 of producing the chains is $______. (Round to the nearest dollar. Enter a free cash outflow as a negative number.)
Compute the NPV of producing the chains from the FCF. The NPV of producing the chains from the FCF is $______. (Round to the nearest dollar. Enter a negative NPV as a negativenumber.)
Compute the difference between the net present values found above. The net present value of producing the chainsin-house instead of purchasing them from the supplier is $______. (Round to the nearestdollar.)