Woodlea Ltd.s (hardwood selling company), CFO, Mr. Teak has been asked by CEO, Mr. Mahogany, to assist with an investment appraisal. They have recently completed a three-year feasibility study on whether, or not, to expand their market offerings and offer specially designed high-quality wooden furniture for upmarket customers and invest on capital infrastructure for the production line. The market research indicates no other competitors have ever sold this specially designed product before. It might open a completely new market for Woodlea Ltd. In addition, it was revealed that this specially designed high-quality wooden furniture can be sold via (e-trade) on-line trading system.

Woodlea Ltd. is considering a proposal to acquire new equipment (which has an expected useful life of 6 years). If the company decides to purchase the new equipment, it would receive $ 24,000 for the existing equipment in the year zero. The latter has been fully depreciated. The new equipment will be placed in service on 1 January 2020. The details regarding the proposal are as follows:

• Expected cost of the new equipment is $ 1,968,000
• Expected installation costs of the new equipment is $ 32,000.
• Expected increase in working capital at the beginning of operations $ 52,000 and expected working capital at the end of the project $ 38,000.
• Expected investment allowance (tax free) received from the government (end of year 1) is 10% of total amount of capital invested (excluding working capital investment).
• Expected salvage value at the end of year 6 is nil.
• Expected repairs to maintain production efficiency (end of year 3): $ 37,000.
• Working capital will be released at the end of year 6.
• Expected increase in annual cash revenue $560,000
• Expected increase in annual cash operating expenses $ 74,000
• It is assumed that all cash flows occur at the end of each year.
• The taxation depreciation on the equipment would be 20% straight line.
• The company is subject to a 30% tax rate and has an after-tax required rate of return of 12%.

Required:

1. What type of investment is Woodlea Ltd making? Provide details as to why you came to this conclusion and other considerations in making the investment decision.
2. Calculate the Net Present Value (NPV) of the proposed investment after tax.
3. Advise Woodlea Ltd management whether they should proceed with the project.