Haverhill Engineers Ltd. manufactures components for the car industry. It is considering automating its line for producing crankshaft bearings. The automated equipment will cost $700,000. It will replace equipment with a scrap value of $50,000 and a net book value of $180,000.
At present, the line has a capacity of 1.25 million units per year but typically it has only been run at 80% of capacity because of the lack of demand for its output. The new line has a capacity of 1.4 million units per year. Its life is expected to be five years and its scrap value at that time will be $100,000.
The accountant has prepared the following cost estimates based on the expected output of 1,000,000 units per year:

Fixed overheads include depreciation on the old machine of $40,000 per year and $120,000 for the new machine. It is considered that, for the business overall, fixed overhead is unlikely to change.
The introduction of the new machine will enable inventory to be reduced by $160,000. The business uses 10% as its cost of capital. Ignore taxes.
Required:
(a) Prepare a statement of the incremental cash flows arising from the project.
(b) Calculate the project's net present value.
(c) Calculate the project's approximate internal rate of return.
(d) Explain the terms net present value and internal rate of return. State which method you consider to be preferable, giving reasons for your choice.

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Old Line New Line (per unit) 0 per unit) Materials Labour Variable overheads Fixed overheads 0.36 0.10 0.14 0.20 0.80 0.22 0.14 1.20 Selling price Profit per unit