Capital budgeting, inventory changes. (M. Wolfson, J. Harris, adapted) Total Fitness is a small company that makes products for physical fitness. The company is considering whether to add a new line of running shoes to be sold to retail stores. To produce these shoes, special machines costing a total of $131,040 must be acquired. The machines haye a useful life of four years, with a combined terminal disposal price of $21,600. The new line ofshoes would be dropped at the end offour years. The estimates for the new product line are as follows:

Variable Year Units Produced Units Sold Selling Price Manufacturing Costs per Unit 1 7,000 6,000 $30.00 $14.40 2 6,500 6,200 30.00 15.60 3 6,500 7,700 28.80 16.80 4 3,000 3,100 26.40 18.00 23,000 23,000 Variable marketing, distribution, and customer service costs are estimated at $3.60 per unit and are not expected to change over the four-year period. The selling price data and all cost estimates are expressed in nominal dollars. Accounts receivable and current liabilities are expected to be minimal.

For tax purposes, the machines qualify for a capital cost allowance rate of 25%, declining balance. iWanufacturing costs are deductible for tax purposes in the year when the related goods are sold. The company uses the first-in, first-out inventory method for its tax return. Marketing, distribution, and customer service costs are deductible for tax purposes in the year when they are incurred. Assume a 40% tax rate. Also, assume that all operating cash flows and income tax payments occur at the end of the year. The after-tax nominal required rate ofreturn is 16%.

Absorption costing must be used for tax purposes. Amortization is allocated on the basis ofthe estimates of the units produced each year.

Required 1. Prepare a schedule ofrelevant cash flows, including income taxes, for each year.

2. Compute the net present value of adding the new line of running shoes.