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Ross Designs is thinking of replacing its seven-year old knitting machine with a new one that can also emboss designs on cloth. This will allow
Ross Designs is thinking of replacing its seven-year old knitting machine with a new one that can also emboss designs on cloth. This will allow Ross to sell its textiles, which currently wholesale for $1.2 a yard, for $0.07 a yard more. The embossing should also raise sales 15% to 2.07million yards annually. The new machine costs $320,000, has annual operating costs of $ 27000 and is expected to last for eight years. Labor, materials and other expenses are estimated to rise by $0.02 to $1.10 per yard. Working capital requirements are expected to remain 30% of sales. All working capital investments will be recaptured in eight years. The current machine was purchased for $190,000 and is being deprecited on a straight-line basis assuming a 10 -year life. Its economic life as of today, however, is estimated to be eight years, the same as that of the new machine. It can be sold for $70,000 today or for an estimated salvage value of $5000 in eight years. The new machine will be depreciated straight line over a five-year period and has an estimated salvage value of $20,000 in eight years. The appropriate discount rate is 10%. (20)
a. What is the change in operating cash flows for each year? What is their present value?
b. What is the net cash flow associated with the purchase of the new knitting machine and the sale of the old one?
c. What is the NPV of the investment in working capital?
d. What is the NPV of the acquisition of the new knitting machine? Should Ross buy it? Give reasons for your answer.
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