Question 3

A food manufacturing company plans to purchase a new machine due to the expected demand for a new product. The machine costs GHC100, 000 and it is expected that the machine shall be used for seven (7) years with a scrap value of GHC7, 500. The company expects the demand for the product to be as follows:

Year 1 2 3 4 5 6 7

Dd (Units) 10,000 15,000 15,000 20,0000 22,000 22,000 5000

The new product will be sold for GHC30 per unit and the variable cost of production is GHC20 per unit. Annual fixed production cost is expected to be GHC18, 000. Selling price, fixed expenses and variable cost are projected to increase as follows:

Increase Selling Price : 4% per year

Variable Cost of production : 3% per year

Fixed production expenses : 5% per year

The companys cost of capital is 12% and pays corporate tax at a rate of 25% in the related year. Calculate the Net Present Value (NPV) of purchasing the new machine. Advise whether it makes economic sense to buy the new machine.