AlphaBeta Machines has details of two machines that could fulfill the company's future production plans. Only one of these will be purchased.

The 'standard' model costs RM 50,000 and the 'premium' RM 88,000, payable immediately. Both machines would require a one-off input of RM10,000 working capital during set up that will be used throughout their working lives and both have no expected scrap value at the end of their expected working lives of four years for the 'standard' machine and six years for the 'premium' machine.

The forecast operating net cash flows (RM) associated with the two machines are

Years Standard Premium

1 20,500 32,030

2 22,860 26,110

3 24,210 25,380

4 23,410 25,940

5 38,560

6 35,100

The 'premium' machine has only recently been introduced to the market, and has not been fully tested in operating conditions. Due to the higher risk involved, the appropriate discount rate for the premium machine is believed to be 14 percent per year, 2 percent higher than the discount rate for the standard machine. The company is proposing to finance the purchase of either machine with a term loan at a fixed interest rate of 11 percent per year.

Required:

a) For both the standard and premium machine calculate (with clear computations) the following and recommend with reasons, which of the two machines AlphaBeta Machine should practice:

i) Payback period

ii) Net present value (16 marks)

b) The general manager of AlphaBeta Machine is in opinion that the NPV computed earlier has disregards the fact that both machines have unequal cash flow. He has asked you to convert it into annual cash flow and recommend which of the two machines AlphaBeta Machine should practice. (3 marks)

c) Surveys have shown that the accounting rate of return and payback period are widely used by companies in the capital investment decision process. Suggest reasons for the widespread use of these investment appraisal techniques. (6 marks)