Question

Mid-Michigan Manufacturing Inc. (MMMI) wishes to determine whether it would be advisable to replace an existing production machine with a new one. The have hired your firm as a consultant to determine whether the new machine should be purchased. The data you will need to make this determination is as follows:

MMMI has decided to set a project timeline of 4 years.

The new machine will cost $1,100,000. It will be depreciated (straight line) over a five-year period (its estimated useful life), assuming a salvage value of $100,000.

The old machine, which has been fully depreciated, could be sold today for $253,165. The company has received a firm offer for the machine from Williamston Widgets, and will sell it only if they purchase the new machine.

Additional Sales generated by the superior products made by the new machine would be $665,000 in Year 1. In Years 2 & 3 sales are projected to grow by 8.5% per year. However, in Year 4, sales are expected to decline by 5% as the market starts to become saturated.

Total expenses have been estimated at 60.75% of Sales.

The firm is in the 21% marginal tax bracket and requires a minimum return on the replacement decision of 9%.

A representative from Stockbridge Sprockets has told MMMI that they will buy the machine from them at the end of the project (the end of Year 4) for $100,000. MMMI has decided to include this in the terminal value of the project.

The project will require $100,000 in Net Working Capital, 54% of which will be recovered at the end of the project.

1. Calculate the Operating Cash Flow per year and NPV.

Answer 1

Check the explanation

Step-by-step explanation:

From the below attached spreadsheet image, we can draw the following conclusion:

• The NPV weighted possibility of the project is less than $0 which invariable means that the project is not worth going through with going by the assumptions and the possibility of the scenarios

• Since the base case probability is 50%. Then NPV under this situation is on the positive side

• However, the NPV under the first scenario is pretty low when compared to the initial outlay required, so we can conclude that the project is not lucrative under the base case

• While base case 2 is more favorable, its probability is very low.

• The probability of case 3 & 4, which yield negative NPV is high at 45%. Refer to attachment for details