Elon Motors produces electric automobiles. In recent years, they have been making all components of the cars, excluding the batteries for each vehicle. The company's leadership team has been considering the ways to reduce the cost of producing its cars. They have considered various options and believe that they could reduce the cost of each car if they produce the car batteries instead of purchasing them from their current vendor, Avari Battery Company.

Currently, the cost of each battery is $325 per unit. The company feels that they could greatly reduce the cost if the production team makes each battery. However, to produce these batteries, the company will need to purchase specialized equipment that costs $1,570,000. However, this equipment will have a useful life of 12 years and is expected to have a salvage value of $70,000 at the end of that time.

Currently, the company purchases 3,000 batteries per year, and the company expects that the production will remain the same for the coming 12-year period. To make the batteries, the company expects that they will need to purchase direct materials at a cost of $125 per battery produced. In addition, the company will need to employ three production workers to make the batteries. The workers likely work 2,080 hours per year and make $25 per hour. In addition, health benefits will amount to 20% of the workers' annual wages. In addition, variable manufacturing overhead costs are estimated to be $25 per unit.

Because there is currently unused space in the factory, no additional fixed costs would be incurred if this proposal is accepted. The company's cost of capital (hurdle rate) has been determined to be 10% for all new projects, and the current tax rate of 30% is anticipated to remain unchanged. The pricing for the company's products as well as number of units sold will not be affected by this decision. The straight-line depreciation method would be used if the new equipment is purchased.

Required Items

Based on the above information and using the provided Excel Template calculate the following items for this proposed equipment purchase.

• Annual cash flows over the expected life of the equipment
• Payback period
• Accounting rate of return
• Net present value
• Internal rate of return
• Modified Internal rate of return

Do you recommend the acceptance of this proposal? Why or why not?

October 2022		ACCT434/436
		Course Project
		Elon Motors
		Project Template
			Elon Motors
Data:
		Cost of new equipment	$1,570,000
		Expected life of equipment in years	12
		Salvage Value	$70,000
		Life Production	36,000
		Annual production or purchase needs	300
		Number of workers needed	3
		Annual hours to be worked per employee	2,080
		Earnings per hour for employees	$25.00
		Health Benefits - % of Wages	20%
		Cost of Direct Materials	$125.00
		Variable Manufacturing Overhead Costs	$25.00
		Unit Cost to Purchase Batteries	$325.00
		Required rate of return	10%
		Tax rate	30%
			Make	Purchase
Cost to Produce
	Annual cost of direct material:	$375,000
		Need - Cost direct material for of 3,000 Batteries
	Annual cost of direct labor for new employees:
		Wages	$ 156,000.00
		Health benefits	$ 31,200.00
		Total wages and benefits	$ 187,200.00
	Other variable production costs	$ 75,000.00
	Total annual production costs	$ 637,200.00
	Annual cost to purchase cans	Annual Cost to Purchase Batteries		$ 975,000.00
Part 1 Cash Flows Over the Life of the Project
			Before Tax	Tax	After Tax
		Item	Amount	Effect	Amount
		Annual cash savings	$337,800	30%	$236,460
		Tax savings due to depreciation	125,000	30%	$37,500
		Total after-tax annual cash flow			$273,960
Part 2 Payback Period		1570000/323960		years	5.73
Part 3 Accounting Rate of Return
	Accounting income as result of decreased costs
		Annual cash savings	$ 337,800.00
		Less depreciation	$ 125,000.00
		Before tax income	$ 212,800.00
		Tax at Current Rate	$ 63,840.00
		After tax income	$ 148,960.00
		Accounting Rate of Return (148960/1570000)	9.49%
Part 4 Net Present Value
				Before Tax	TAX	After Tax	PV	Present
		Item	Year	Amount	30%	Amount	Factor	Value
		Cost of machine	0	$1,570,000			1.000	$1,570,000.00
		Annual cash savings	1-12	$337,800	$ 101,340.00	236,460	6.8137	$1,611,167.50
		Tax savings due to depreciation	1-12	$125,000	$ 37,500.00	87,500	6.8137	$ 255,513.75
		Disposal value	12	$70,000	$ 21,000.00	49,000	0.3186	$ 15,611.40
		Net Present Value						$3,452,292.65
Part 5 Internal Rate of Return and Modified Internal Rate of Return
					After Tax
			Item	Year	Amount
			Cost of machine	0	$ (1,570,000.00)
			Year 1 inflow	1	$ 240,591.67
			Year 2 inflow	2	$ 211,277.95
			Year 3 inflow	3	$ 185,553.11
			Year 4 inflow	4	$ 162,951.41
			Year 5 inflow	5	$ 143,089.31
			Year 6 inflow	6	$ 125,665.45
			Year 7 inflow	7	$ 110,351.09
			Year 8 inflow	8	$ 96,927.05
			Year 9 inflow	9	$ 85,119.37
			Year 10 inflow	10	$ 74,736.29
			Year 11 inflow	11	$ 65,640.82
			Year 12 inflow	12	$ 57,641.18
					$ 10,309.60
			Internal Rate of Return	13.87%
			Modified Internal Rate of Return	11.67%
			Net Present Value		$ (145.70)