Question 3 [15 marks] A dairy farm is deciding whether to buy a new machine to produce milk lollies. It is expected that the demand for milk lollies will last five years and will be as follows: Number of milk lollies produced and sold: Year 1 40 000 Year 2 40 000 Year 3 30 000 Year 4 20 000 Year 5 20 000 The milk lollies can be sold for R3.00 each. Data for the new machine is as follows: R Capital 150 000 Per unit Operating costs: Direct labour 0.40 Materials 0.60 Variable overheads 0.25 Fixed overheads: Depreciation 1.00 Allocated costs 0.40 2.65

Unit operating costs, fixed overheads costs and selling price are expected to remain constant throughout the five-year period. The dairy expects its cost of capital to be 20% throughout the period.

Required:

1. Calculate the accounting rate of return based on initial investment for the new machine. (5)

2. Calculate the payback period of the new machine. (5)

3. Calculate the net present value of the machine (5)