Problem 2 (10 Marks)

Precision Mechanical is considering purchasing a robotic system at a cost of $250,000. There will be additional costs for installation and modification totalling $14,000. Use of the system will reduce annual labour costs of $200,000 by 25%. Product defects will also be reduced, saving the company $18,000 per year. Precision will need to increase net operating working capital by $5,000. The company has decided that the robot can be located in a part of the factory that is currently underutilized and is undergoing a $20,000 upgrade for a separate project. The robotic system has an expected life of 6 years, at which time it will have a salvage value of $40,000. Precision Mechanical has a weighted average cost of capital of 13%. The applicable corporate tax rate is 35% and the CCA rate is 20%. The company will be financing the system with a 6-year bank loan with annual year-end payments of $57,000, (consisting of both interest and principal).

Required:

Determine if Precision Mechanical should purchase this equipment.

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