World Manufacturing, Inc. was originally a family owned operation that has been in business for several generations.

The firm is 70% equity financed; shares currently trade at $37 and do not pay a dividend. Debt capital is provided by a single issue of bonds (20 year, $1,000 par value, $85 coupon) currently trading at $1,049. The firm's beta is 1.25. Their traditional hurdle rate has been 10%, though the rate has not been reviewed in many years. Over the years, shareholders have come to expect a 10% return. Their corporate tax rate is 25%. Treasury securities are yielding 4.75%. The market rate of return on equities is 8.25%.

They are currently using several old-style machines that together had cost $700,000. Depreciation of $210,000 has already been charged against this total cost; depreciation charges are $80,000 annually. Management believes these machines will need to be replaced after eight more years. They have a current market value of $200,000.

The old machines require eleven workers per shift earning $13.50/hr plus three maintenance workers paid $14.50/hr. The plant operates day and afternoon shifts five days each week; maintenance workers are assigned to the afternoon shift only. Maintenance expenses have been running at $5,000 annually; the cost of electricity has been $26,500 per year. The production process is not only labor intensive, but also physically demanding. Workplace injuries are not uncommon and lately medical claims have been increasing.

The Machine Tool Division is considering the purchase of a piece of highly-automated, robotic production equipment. It would replace older machines and would offer improvements in quality, and some additional capacity for expansion. Because of the magnitude of the proposed expenditure, a careful estimate of the projects costs and benefits is needed. The new machine will have a total cost that includes shipping, installation and testing of $1.5 million. The plant will also need $350,000 in modifications to accommodate the new machine. These costs will be capitalized and depreciated over the eight-year estimated life of the machine. The new machine would require only two skilled operators (one per shift) who would earn $25/hr. Maintenance will be outsourced and cost $90,000 per year. The annual cost of electricity is estimated to be $50,000. Certain aspects of the decision are difficult to quantify. .

The specs on the new machine indicate that even higher levels of product quality and lower scrap rates are possible. In light of ever-increasing competition, this might prove to be of enormous competitive advantage. The new machine has a maximum capacity 27% higher than the old semi-automated machines which are currently operating at 90% capacity.

Identify and analyze the relevant cash flows for the two alternatives - buying the new machine vs. continuing to use the old ones.