Structured Problem Solving, Cash Flows, NPV, Choice of Discount Rate, Advanced Manufacturing Environment

Ashley Thayn, president and owner of Orangeville Metal Works, has just returned from a trip to Europe. While there, she toured several plants that use robotic manufacturing. Seeing the efficiency and success of these companies, Ashley became convinced that robotic manufacturing is essential for Orangeville to maintain its competitive position.

Based on this conviction, Ashley requested an analysis detailing the costs and benefits of robotic manufacturing for the materials handling and merchandising equipment group. This group of products consists of such items as cooler shelving, stocking carts, and bakery racks. The products are sold directly to supermarkets.

A committee, consisting of the controller, the marketing manager, and the production manager, was given the responsibility to prepare the analysis. As a starting point, the controller provided the following information on expected revenues and expenses for the existing manual system:

		Percentage of Sales
Sales	$400,000	100%
Less: Variable cash expensesa	228,000	57
Contribution margin	$172,000	43
Less: Fixed expensesb	92,000	23
Income before income taxes	$80,000	20

^aVariable cost detail (as a percentage of sales):

Direct materials	16%
Direct labor	25
Variable overhead	8
Variable selling	8

^b$20,000 is depreciation; the rest is cash expenses.

Given the current competitive environment, the marketing manager thought that the preceding level of profitability would not likely change for the next decade.

After some investigation into various robotic equipment, the committee settled on an Aide 900 system, a robot that has the capability to weld stainless steel or aluminum. It is capable of being programmed to adjust the path, angle, and speed of the torch. The production manager was excited about the robotic system because it would eliminate the need to hire welders. This was an attractive possibility because the market for welders seemed perpetually tight. By reducing the dependence on welders, better production scheduling and fewer late deliveries would result. Moreover, the robot's production rate is four times that of a person.

It was also discovered that robotic welding is superior in quality to manual welding. As a consequence, some of the costs of poor quality could be reduced. By providing better-quality products and avoiding late deliveries, the marketing manager was convinced that the company would have such a competitive edge that it would increase sales by 50 percent for the affected product group by the end of the fourth year. The marketing manager provided the following projections for the next 10 years, the useful life of the robotic equipment:

	Year 1	Year 2	Year 3	Years 4-10
Sales	$400,000	$450,000	$500,000	$600,000

Currently, welding is the only variable direct labor cost. If the robot is acquired, it will need one operator, who will be paid a salary of $40,000 per year. Only one operator will be needed for the range of sales the company will experience. Because of improved quality, the robotic system will also reduce the cost of direct materials by 25 percent, the cost of variable overhead by 33.33 percent, and variable selling expenses by 10 percent. All of these reductions will take place immediately after the robotic system is in place and operating. Fixed costs will be increased by the depreciation associated with the robot. The robot will be depreciated using MACRS. (The manual system uses straight-line depreciation without a half-year convention and has a current book value of $200,000.) If the robotic system is acquired, the old system will be sold for $40,000.

The robotic system requires the following initial investment:

Purchase price	$380,000
Installation	70,000
Training	30,000
Engineering	40,000

At the end of 10 years, the robot will have a salvage value of $20,000. Assume that the company's cost of capital is 12 percent. The tax rate is 25 percent.

You must use the Exhibit 19B.1 and Exhibit 19B.2 present value tables and Exhibit 19.5 to solve the following problems.

Required:

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1. schedule of after-tax cash flows for the manual system. Enter cash outflows as negative amounts and cash inflows as positive amounts.

Year	(1 - t)R	-(1 - t)C	tNC	Cash Flows
1-10	$fill in the blank b74adbf34fb506e_1	$fill in the blank b74adbf34fb506e_2	$fill in the blank b74adbf34fb506e_3	$fill in the blank b74adbf34fb506e_4

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Remember that cash revenues, operating costs and savings are subject to income taxes so the after tax cash flow will be times (1-tax rate). Asset related cash flows (depreciation tax shield, impact of taxable gain or loss on disposal) are usually multiplied times the tax rate. Don't forget if they buy the new equipment, they will dispose of the old and receive cash proceeds for it and have a tax impact from the gain or loss on the sale (if there is a gain or loss).

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schedule of after-tax cash flows for the robotic system. When performing intermediate calculations, round percentages to two decimal places (15.456% rounds to 15.46%) and round computed amounts to the nearest dollar. Enter cash outflows as negative amounts and cash inflows as positive amounts.

Year	(1 - t)R	-(1 - t)C	tNC	Other	Cash Flows
0			$fill in the blank fe578c06b02afc0_1	$fill in the blank fe578c06b02afc0_2	$fill in the blank fe578c06b02afc0_3
1	$fill in the blank fe578c06b02afc0_4	$fill in the blank fe578c06b02afc0_5	fill in the blank fe578c06b02afc0_6		fill in the blank fe578c06b02afc0_7
2	fill in the blank fe578c06b02afc0_8	fill in the blank fe578c06b02afc0_9	fill in the blank fe578c06b02afc0_10		fill in the blank fe578c06b02afc0_11
3	fill in the blank fe578c06b02afc0_12	fill in the blank fe578c06b02afc0_13	fill in the blank fe578c06b02afc0_14		fill in the blank fe578c06b02afc0_15
4	fill in the blank fe578c06b02afc0_16	fill in the blank fe578c06b02afc0_17	fill in the blank fe578c06b02afc0_18		fill in the blank fe578c06b02afc0_19
5	fill in the blank fe578c06b02afc0_20	fill in the blank fe578c06b02afc0_21	fill in the blank fe578c06b02afc0_22		fill in the blank fe578c06b02afc0_23
6	fill in the blank fe578c06b02afc0_24	fill in the blank fe578c06b02afc0_25	fill in the blank fe578c06b02afc0_26		fill in the blank fe578c06b02afc0_27
7	fill in the blank fe578c06b02afc0_28	fill in the blank fe578c06b02afc0_29	fill in the blank fe578c06b02afc0_30		fill in the blank fe578c06b02afc0_31
8	fill in the blank fe578c06b02afc0_32	fill in the blank fe578c06b02afc0_33	fill in the blank fe578c06b02afc0_34		fill in the blank fe578c06b02afc0_35
9	fill in the blank fe578c06b02afc0_36	fill in the blank fe578c06b02afc0_37			fill in the blank fe578c06b02afc0_38
10	fill in the blank fe578c06b02afc0_39	fill in the blank fe578c06b02afc0_40			fill in the blank fe578c06b02afc0_41

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NPV is the present value of all the cash flows of a project. The up front investment cost won't require any adjustment to present value since it is at the beginning of the project. The future cash flows should be adjusted to the present using time value of money present value factors.

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2. Using the schedules of cash flows computed in Requirement 1, compute the NPV for each system. Round intermediate calculations and your final answers to the nearest dollar.

	NPV
Manual system	$fill in the blank db0f85ff100ff98_1
Robotic system	$fill in the blank db0f85ff100ff98_2

Should the company invest in the robotic system?