5. Baba Rafi wants to replace their existing BBQ machine in front of NSU gate 1 with a newly improved and more efficient equipment. The new machine will include grilling, as well as baking options with a burner. This means Baba Rafi is considering the introduction of flat bread pizzas. The old one costs $500,000 and was bought 5 years back. The old machine should run for 5 more years. Today salvage value of the old machine is $265,000 and from 5 years from now it should be $10,000. Currently the old truck uses the straight-line method of depreciation. The replacement will also require an initial investment in current assets of $20,000, of which $10,000 will be coming from short-term creditors (hint: working capital = CA-CL). The new BBQ machine, which will be in operation for 5 years, will cost the company $650,000. For the new equipment the company will follow a three years MACRS depreciation schedule and the depreciation percentage every year for the new truck is given below. Year 1 .3333 Year 2 4444 Year 3 .1482 Year 4 .0741 Tax rate is 40% Required a) Using the above-mentioned information give you justification whether Baba Rafi should replace its current BBQ machine with the new composite machine using the NPV. The WACC is 12% (18 marks) Answer: Year 1 2 3 4 5 Cost Savings Depr. New Old Net Dep EBIT Taxes NI Year 0 2 3 5 OCF NCS A In NWC FCF 5. Baba Rafi wants to replace their existing BBQ machine in front of NSU gate 1 with a newly improved and more efficient equipment. The new machine will include grilling, as well as baking options with a burner. This means Baba Rafi is considering the introduction of flat bread pizzas. The old one costs $500,000 and was bought 5 years back. The old machine should run for 5 more years. Today salvage value of the old machine is $265,000 and from 5 years from now it should be $10,000. Currently the old truck uses the straight-line method of depreciation. The replacement will also require an initial investment in current assets of $20,000, of which $10,000 will be coming from short-term creditors (hint: working capital = CA-CL). The new BBQ machine, which will be in operation for 5 years, will cost the company $650,000. For the new equipment the company will follow a three years MACRS depreciation schedule and the depreciation percentage every year for the new truck is given below. Year 1 .3333 Year 2 4444 Year 3 .1482 Year 4 .0741 Tax rate is 40% Required a) Using the above-mentioned information give you justification whether Baba Rafi should replace its current BBQ machine with the new composite machine using the NPV. The WACC is 12% (18 marks) Answer: Year 1 2 3 4 5 Cost Savings Depr. New Old Net Dep EBIT Taxes NI Year 0 2 3 5 OCF NCS A In NWC FCF
