"Rough & Ready" is a tool manufacturing business based in Melbourne. The entity's tax rate is 30%. It is considering the replacement of a manually operated machine with a fully automated model. One full-time staff member is currently employed to manually operate the current machine. This costs the company $120,000 p.a. in wages, holiday loading and compulsory superannuation payments. It also includes money spent on engaging another person when the full-time staff member goes on holidays or calls in sick. The manual machine's maintenance costs are $12,000 per year. The manually operated machine was bought 4 years ago for $75,000. The Australian Tax Office schedule includes the asset in the 12-year useful-life category and only allows prime cost depreciation (with no residual) for this type of equipment. This is a straight-line depreciation method with no residual. The company believed that the machine normally would be taken out of service at the 12-year point. The current disposal value of the machine presently in use is $18,750. The fully automated machine has a purchase price of $300,000. Shipping and installation would cost $26,250. Maintenance on this machine would be $30,000. Adoption of the fully automated machine would cut the cost of defects from $7,500 to $1,875 per year. The new machine is in an 8-year useful life tax category (with no residual) and again prime cost depreciation is the only method available. As the machine will undergo heavy use, the company believes the 8 years may be quite accurate.
"Rough & Ready" is a tool manufacturing business based in Melbourne. The entity's tax rate is 30%. It is considering the replacement of a manually operated machine with a fully automated model. One full-time staff member is currently employed to manually operate the current machine. This costs the company $120,000 p.a. in wages, holiday loading and compulsory superannuation payments. It also includes money spent on engaging another person when the full-time staff member goes on holidays or calls in sick. The manual machine's maintenance costs are $12,000 per year. The manually operated machine was bought 4 years ago for $75,000. The Australian Tax Office schedule includes the asset in the 12-year useful-life category and only allows prime cost depreciation (with no residual) for this type of equipment. This is a straight-line depreciation method with no residual. The company believed that the machine normally would be taken out of service at the 12-year point. The current disposal value of the machine presently in use is $18,750. The fully automated machine has a purchase price of $300,000. Shipping and installation would cost $26,250. Maintenance on this machine would be $30,000. Adoption of the fully automated machine would cut the cost of defects from $7,500 to $1,875 per year. The new machine is in an 8-year useful life tax category (with no residual) and again prime cost depreciation is the only method available. As the machine will undergo heavy use, the company believes the 8 years may be quite accurate.
Chapter5: Introduction To Business Expenses
Section: Chapter Questions
Problem 60P
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Question
Transcribed Image Text:"Rough & Ready" is a tool manufacturing business based in Melbourne. The entity's tax rate
is 30%. It is considering the replacement of a manually operated machine with a fully
automated model. One full-time staff member is currently employed to manually operate the
current machine. This costs the company $120,000 p.a. in wages, holiday loading and
compulsory superannuation payments. It also includes money spent on engaging another
person when the full-time staff member goes on holidays or calls in sick. The manual
machine's maintenance costs are $12,000 per year.
The manually operated machine was bought 4 years ago for $75,000. The Australian Tax
Office schedule includes the asset in the 12-year useful-life category and only allows prime
cost depreciation (with no residual) for this type of equipment. This is a straight-line
depreciation method with no residual. The company believed that the machine normally
would be taken out of service at the 12-year point. The current disposal value of the machine
presently in use is $18,750.
The fully automated machine has a purchase price of $300,000. Shipping and installation
would cost $26,250. Maintenance on this machine would be $30,000. Adoption of the fully
automated machine would cut the cost of defects from $7,500 to $1,875 per year.
The new machine is in an 8-year useful life tax category (with no residual) and again prime
cost depreciation is the only method available. As the machine will undergo heavy use, the
company believes the 8 years may be quite accurate.
Required
(a) Determine the cash flows associated with the equipment replacement project on the next
page.
(b) Given that the required rate of return is 15%, compute the NPV, IRR and the Profitability
Index (PI).
(c) Advise if you would or would not recommend the project and give robust reasons.
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