Question
Lapu-lapu Inc. (LLI) is considering a five-year contract to replace a manufacturing equipment, with a book value of P250,000. The old equipments cost was P1,000,000
Lapu-lapu Inc. (LLI) is considering a five-year contract to replace a manufacturing equipment, with a book value of P250,000. The old equipments cost was P1,000,000 while the new manufacturing equipment will cost P4,000,000. Shipping the equipment from the US to Cebu would cost P150,000 and an additional P100,000 for the insurance of the equipment during transit. The credit terms given by the supplier is 5/30, n/60. The old equipment can be sold to the market for P50,000. The new equipment would enable the entity to avoid immediate repairs of P45,000 on the old equipment.
The project will require additional working capital: current assets of P150,000 and current liabilities of P50,000. The working capital will be returned to LLI at the end of 5 years.
The equipment is to be depreciated over 5 years using the straight-line method, with no salvage value.
Before-tax annual net cash receipts from daily operations (cash receipts minus cash payments) are shown as follows. Since depreciation expense is not a cash outflow, it is not included in these amounts.
Year | Net Cash Receipts |
1 | P 1,500,000 |
2 | 1,600,000 |
3 | 2,200,000 |
4 | 2,000,000 |
5 | 1,500,000 |
The management established a required rate of return of 10 percent for this proposal. The current corporate tax rate is 30%.
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