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A widget manufacturer currently produces 2 0 0 , 0 0 0 units a year. It buys widget lids from an outside supplier at a

A widget manufacturer currently produces 200,000 units a year. It buys widget lids from an
outside supplier at a price of $2 a lid. The plant manager believes that it would be cheaper
to make these lids rather than buy them. Direct production costs are estimated to be only
$1.50 a lid. The necessary machinery would cost $150,000 and would last 10 years. This
investment could be written off for tax purposes using the seven-year tax depreciation
schedule. The plant manager estimates that the operation would require additional work
ing capital of $30,000 but argues that this sum can be ignored since it is recoverable at the
end of the 10 years. If the company pays tax at a rate of 35% and the opportunity cost of
capital is 15%, would you support the plant managers proposal? State clearly any addi
tional assumptions that you need to make.

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