Table 6.7
The B.Sharp Company has a rapidly growing product line that requires two work centers,X and Y for manufacture.Work Center X has a current capacity of 50,000 units per year,and Work Center Y is capable of 55,000 units per year.This year (year 0),sales of the product line are expected to reach 50,000 units.Growth is projected at an additional 3,000 units each year through year 3.Pre-tax profits are expected to be $60 per unit throughout the 3-year planning period.Two alternatives are being considered:
-Use the information in Table 6.7.What is the pre-tax cash flow (net present value)for alternative #1 compared to the base case of doing nothing for the next five years?

Question

Quizplus · Accepted Answer

To calculate the pre-tax cash flow for alternative #1, we need to calculate the net present value of the cash inflows and outflows.

For alternative #1, the cash outflows are as follows:
- $150,000 in year 0 for new equipment
- $30,000 per year for maintenance and repairs
- $195,000 in year 3 for equipment replacement

The cash inflows for alternative #1 are the pre-tax profits, which are $3 million over the 3-year planning period.

Using a discount rate of 10%, we can calculate the net present value of these cash flows:
NPV = (-$150,000) + ($2,497,171) - ($195,000) - ($30,000 + $30,000/(1+0.1) + $30,000/(1+0.1)^2) = $2,091,907

Compared to the base case of doing nothing, the pre-tax cash flow for alternative #1 is positive and more than $200,000, making it the best choice.

Table 6.7 The B.Sharp Company Has a Rapidly Growing Product Line That