QUESTION $1$

Holiday Manufacturing is considering the replacement of an existing machine. The

new machine costs R$1,2$ million and requires installation costs of R$150000.$ The

existing machine can be sold today for R$185000$ before taxes. It is $2$ years old, cost

R$800000$ new, and has a remaining useful life of $5$ years. It is being depreciated

under the straight line method over an economic life of $5$ years. If held until the end

of $5$ years, the machine's market value would be R$0.$ Over its $5-$year life, the new

machine should reduce operating costs by R $350000$ per year. The new machine will

be depreciated under the straight line method over an economic life of $5$ years. After

$5$ years the new machine can be sold for an estimated R$200000$ net of removal and

cleanup costs. An increased investment in net working capital of R$25000$ will be

needed to support operations if the new machine is acquired. Assume that the firm

has adequate operating income against which to deduct any losses experienced on

the sale of the existing machine. The firm has a $10$ percent cost of capital and is

subject to a $40$ percent tax rate.

REQUIRED

$($a$)$ Develop the relevant cash flows to analyze the proposed replacement.

$($b$)$ Determine the payback, net present value $($NPV$),$ the internal rate of return $($IRR$)$

and the profitability index $(Pl)$ of the proposal.

$($c$)$ Make a recommendation and justify your answer.