AXA Ltd has recently decided to expand the range of products. To produce a new product,...
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AXA Ltd has recently decided to expand the range of products. To produce a new product, the company will need to purchase a new machine. This machine will cost £400,000 and last for four years, at the end of which time it will be sold for £90,000. The company has predicted the following sales levels for the four-year period: Units Year 1 30,000 Year 2 30,000 Variable cost Incremental annual fixed cost Year 3 40,000 The company plans to sell the product for £11 per unit, and has estimated additional costs as follows: Selling Price Inflation Variable Cost Inflation Fixed Cost Inflation General Inflation Year 4 20,000 £4 per unit £20,000 per annum The above costs have all been expressed in current terms. The following inflation levels are expected to apply: 3% 3% 5% 4% The company has a real cost of capital of 6% and pays tax at an annual rate of 30% one year in arrears. It can claim capital allowances on a 20% reducing balance basis. (Note: the tax benefit/charge on capital allowances occurs in the year of claim, not in arrears). All cash flows will occur at the end of each year. The real rate is based on the general inflation rate. Required: a) Calculate the net present value of the proposed investment. (23 marks) b) Recommend whether it should be undertaken by the directors of AXA Ltd. AXA Ltd has recently decided to expand the range of products. To produce a new product, the company will need to purchase a new machine. This machine will cost £400,000 and last for four years, at the end of which time it will be sold for £90,000. The company has predicted the following sales levels for the four-year period: Units Year 1 30,000 Year 2 30,000 Variable cost Incremental annual fixed cost Year 3 40,000 The company plans to sell the product for £11 per unit, and has estimated additional costs as follows: Selling Price Inflation Variable Cost Inflation Fixed Cost Inflation General Inflation Year 4 20,000 £4 per unit £20,000 per annum The above costs have all been expressed in current terms. The following inflation levels are expected to apply: 3% 3% 5% 4% The company has a real cost of capital of 6% and pays tax at an annual rate of 30% one year in arrears. It can claim capital allowances on a 20% reducing balance basis. (Note: the tax benefit/charge on capital allowances occurs in the year of claim, not in arrears). All cash flows will occur at the end of each year. The real rate is based on the general inflation rate. Required: a) Calculate the net present value of the proposed investment. (23 marks) b) Recommend whether it should be undertaken by the directors of AXA Ltd.
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a Net Present Value Calculation Year 0 Cost of Machine 400000 Year 1 Revenue 30000 x 11 330000 Varia... View the full answer
Related Book For
Cost Management Accounting and Control
ISBN: 978-0324559675
6th Edition
Authors: Don R. Hansen, Maryanne M. Mowen, Liming Guan
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