Accounting
Your company is considering expanding its production capacity by purchasing a new machine. The cost of this new machine is $2 million. The machine will be depreciated via the straight-line method over its 4-year life. The new machine, once installed successfully, will generate $5 million per year in additional sales for the next 3 years. The cost of goods for the products produced by the new machine is expected to be 70% of their sale price. This expansion of the production capacity will require additional sales and administrative personnel at a cost of $0.5 million per year during the life of the project. The increased production will require no additional inventory. The firm expects receivables from the new sales to be 20% of revenues and payables to be 20% of the cost of goods sold. The marginal corporate tax rate of your firm is 30%.
a. If the cost of capital for the expansion is 8%, compute the NPV of the purchase.
b. What is the break-even level of new sales from the expansion?
c. What is the IRR of this expansion? If you see an alternative project with the IRR of 20%, would you switch to the alternative? Provide your answer with reasoning.
