Page $5$

SECTION C $-20$ marks

Exuberance Inc. manufactures safety surfacing for children's playgrounds. The company

is considering investing in new equipment that would allow Exuberance Inc. to

manufacture particles by using recycled tyres. The machine required to process the tyres

will cost $$400,000$ and it is estimated that at the end of year four the machine will have a

second$-$hand value of $$50,000.$ The particles can be sold for $$3\mathrm{.}50$ per tonne.

The costs associated with the new venture are as follows:

Variable costs $($per tonne produced$),$$$0\mathrm{.}80$

Fixed costs $($per year$)$ $$65,000$

Additional fixed costs are maintenance costs of $$40,000$ and the depreciation charge

$($calculated on a straight$-$line basis over the life of the asset$)$ relating to the machine.

The annual demand for the particles $($based on the sales forecasts of the company$)$ is:

The company falls into the $30\%$ tax bracket. Tax$-$allowable depreciation is on a straight$-$

line basis. Management has determined that $15\%$ is the appropriate discount rate for

projects with this risk level. The project will require a working capital injection of $$10,000$

at the beginning of the project.

Required: $($Show all necessary working$)$

a$.$ Calculate the net present value of investing in the new machine and

advise whether the investment is financially acceptable.

b$.$ Calculate the internal rate of return of investing in the new

machine and advise whether the investment is financially acceptable.

$(3$ marks$)$

c$.$ Calculate the discounted pay$-$back period for the new machine and

advise whether the investment is financially acceptable.

Assume management has set a cut off period of three $(3)$ years.

d$.$ Briefly discuss three $(3)$ disadvantages of the pay$-$back period.