Management Accounting

Blue Heeler Ltd's management is considering a proposal to acquire new material-handling equipment. The new equipment has the same capacity as the old equipment but will provide operating efficiencies in labour and power usage. The savings in operating costs are estimated at Rs.225000 annually. The new equipment would cost Rs.450000 and would be purchased at the beginning of the year. The equipment dealer is certain that the equipment would be operational during the second quarter of the year in which it is installed. Therefore, 60 per cent of the estimated yearly savings can be obtained in the first year. Also, in year 1, a 10 per cent investment allowance can be taken. The company would incur a one-off expense of Rs.45000 to transfer production activities from the old equipment to the new equipment. No loss of sales will occur because the processing facility is large enough to install the new equipment without interfering with production operations. The taxation depreciation on the equipment would be 15 per cent using the straight-line method. The old equipment has been fully depreciated. However, management have reviewed its condition and concluded that if the new equipment was not purchased, then the old equipment could continue to be used for an additional eight years. If the company decided to purchase the new equipment, it would receive Rs.7,500 net of removal costs for the old equipment. The new equipment would have no salvage value at the end of its life. The company is subject to a 36 per cent income tax rate and requires an after-tax return of at least 10 per cent (discount factor) on any investment. Required: a. Calculate the annual incremental after-tax cash flows for each year for Blue Heeler Ltd's proposal to acquire the new equipment. (15 marks) b. Calculate the net present value of the company's proposal to acquire the new equipment using the cash flows calculated in requirement 1, and indicate what action management should take. (5 marks) (Total 20 marks) Blue Heeler Ltd's management is considering a proposal to acquire new material-handling equipment. The new equipment has the same capacity as the old equipment but will provide operating efficiencies in labour and power usage. The savings in operating costs are estimated at Rs.225000 annually. The new equipment would cost Rs.450000 and would be purchased at the beginning of the year. The equipment dealer is certain that the equipment would be operational during the second quarter of the year in which it is installed. Therefore, 60 per cent of the estimated yearly savings can be obtained in the first year. Also, in year 1, a 10 per cent investment allowance can be taken. The company would incur a one-off expense of Rs.45000 to transfer production activities from the old equipment to the new equipment. No loss of sales will occur because the processing facility is large enough to install the new equipment without interfering with production operations. The taxation depreciation on the equipment would be 15 per cent using the straight-line method. The old equipment has been fully depreciated. However, management have reviewed its condition and concluded that if the new equipment was not purchased, then the old equipment could continue to be used for an additional eight years. If the company decided to purchase the new equipment, it would receive Rs.7,500 net of removal costs for the old equipment. The new equipment would have no salvage value at the end of its life. The company is subject to a 36 per cent income tax rate and requires an after-tax return of at least 10 per cent (discount factor) on any investment. Required: a. Calculate the annual incremental after-tax cash flows for each year for Blue Heeler Ltd's proposal to acquire the new equipment. (15 marks) b. Calculate the net present value of the company's proposal to acquire the new equipment using the cash flows calculated in requirement 1, and indicate what action management should take. (5 marks) (Total 20 marks)