Question
The management team at Piper Ltd is evaluating a proposal to overhaul its production methods company wide. Important details concerning this proposal is provided below:
- The initial cost of the equipment will be $25 million. This cost will be depreciated using the straight-line method over the 10-year life of the upgrade.
- Staff will need to be retrained to use the new equipment. This is expected to cost $500,000.
- Existing equipment will need to be removed and disposed of at a cost of $750,000.
- The new equipment will also enable the firm to offer the leading eye test accuracy and detail on the market. Collectively, this is expected to increase the firm’s revenues by $3 million in year 1. This will increase by 2% p.a.
- The new equipment is expected to save the firm $500,000 in operating costs p.a.
- At the end of years 3, 6 and 9, the new equipment will require a service. Each of these services will cost $50,000.
The firm’s tax rate is 30%. The firm requires a 12% required rate of return on all potential investments.
Required
In relation to the above proposal:
- Calculate the annual after-tax cash flows and annual after-tax profit.
- Calculate the payback period.
- Calculate the net present value.
- Calculate the internal rate of return.
- Calculate the accounting rate of return.
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