M Ltd. is determining the cash flow for a project involving replacement of an old machine by a new machine. The old machine bought a few years ago has a book value of Rs.1,200,000 and it can be sold to realise a net of tax salvage value of Rs.800,000. It has a remaining life of four years after which its net salvage value is expected to be Rs.500,000. It is being depreciated annually at a rate of 20% on the WDV method. The working capital associated with this machine is Rs.700,000.

The new machine costs Rs.5,000,000. It is expected to fetch a net salvage value of Rs.2,500,000 after four years. The depreciation rate applicable to it is 20% under the WDV method. The new machine is expected to bring a saving of Rs.800,000 annually in manufacturing costs (other than depreciation). The incremental working capital associated with the new machine is Rs.200,000. The tax rate applicable to the firm is 34 percent.

Questions:

(a) Estimate the cash flow associated with the replacement project.

(b) What is the NPV of the replacement project if the cost of capital is 15%?