TWILIGHT ACRES

Financial Management – Group Assignment

ASHWIN KRISHNAKUMAR 30999940

DARPAN OBERIO 300991298
SABRI AYYAPPAN 301002973
SHELLY SHAH 300963575
VATSAL DESAI 300965695
Question 1) Determine the decision that needs to be made by the owner and the criteria

he should use to make the decision.

The owner of Twilight Acres, Steve Twynstra had to decide whether to purchase a new Machine

or perform significant repairs on the existing machine. The decision had to be made as soon as

possible so that Twynstra could negotiate better and close the deal before the next year’s

harvesting.

The Criteria Steve should consider before making the decision is:

• The capacity of the foot grain required: Existing machinery (CaseIH 2366) has a 25-

foot grain head whereas the new machinery (CaseIH 2388) will also have a 25-foot

grain head but will have an upgradable capacity till 30-foot grain head.

• Maintenance Cost: Existing Machinery has a maintenance cost of $4,000 a year whereas

the new machinery will have a maintenance cost of $2,000 a year.

• Extra expenses: Steve had to decide whether to spend $37,000 on repairs for CaseIH

2366 or to finance the new machinery.

• Future Value: Steve felt that CaseIH 2366 will not be functional after four years, so he

had to decide whether to spend now on repairs or whether to buy the new machinery.

• Trade-in value: If Steve plans to buy the new machinery, he is being offered a trade-in

value of $152,000 on the other hand if he plans to keep using the existing machinery

the trade-in value after four years will be $75,000.

Question 2) Perform a Net Present Value calculation for the purchase of the new machine.

Use 15% as the cost of capital. Use $15, 050 as the Present Value of the Tax Shield from

CCA.
Existing machinery

Capital investment = 0

Revenue = $ 75,000

Operating cost = $ 53,000(27,000 of year 1 + 10,000 for year 2 + yearly maintenance for 4

years 4*4000)

Annual depreciation = $115,000/4 = $28,750

Periodic net cash flows = (revenue – operating cost – depreciation) * (1 – tax rate) +

depreciation

Periodic net cash flows = ($75,000 - $53,000 - $28,750) * (1 – 21%) + $28,750 = $23,417.5

Replaced machinery

Cost of new machinery = $267,000

Sale proceeds of old machinery = $75,000

Book value of old machinery = $115,000

Tax on sale of old machinery = ($115,000 - $75,000) * 21% = $8,400

Net initial investment = $267,000 – $115,000 + $8,400) = $160.400

New revenue = $115,000 * 1.15 = $132,250

New operating cost = $16,347 * 2 + 2,000 = $34,694

Depreciation expense on new machinery = $267,000/4 = $66,750

Periodic net cash flows = ($132,250 - $34,694 - $66,750) * (1 – 21%) + $66,750 = $91,086
 Incremental cash flows

Incremental cash flows at time 0 = net investment after replacement – net investment before

replacement

Incremental cash flows at time 0 = $160,400 – 0 = $160,400

Incremental cash flows in Year 1 to 4 = net annual cash flows after replacement – net annual

cash flows before replacement

Incremental cash flows in Year 1 to 4 = $91,086 - $23,417.5 =$67,668.5

Calculating net present value and IRR:

NPV = PV factor for 4 years at 0.572% * incremental cash flows (Year 1-4) – incremental

initial investment

NPV = 0.572 * $67,668.5 – $160,400

NPV = -$121,693.62

IRR = 24.792%

Since the net present value is positive and IRR is way above the hurdle rate, it is feasible to

replace the machinery at this stage.

Question 3) Discuss the pros and cons of purchasing the new machinery.

Question 4) As owner, what would your decision be? Provide necessary support and

justification
As an owner my decision would be to replace the machinery and buy a new machinery. The

justification is as follows: -

 NPV (net present value) is positive and IRR is way above the hurdle rate, it is feasible to

replace the machinery at this stage

 Productivity would increase by 15%

 Maintenance costs would decrease considerably

 Improving capability – due to the improved technology of the machinery it can have a

positive impact on a company’s efficiency, enabling employees to work faster and increase

productivity.

 Employees take pride in working with a new machinery and this result in increase

capabilities and improved efficiency.

 New machinery would make it possible to produce extra in good harvest years and earn

extra profits.

 Ownership also gives companies the freedom to determine whether a machine needs

maintenance or not, as well as the option to sell later on.

 New machinery is less likely to require repairs, which can help your company avoid delays

and keep projects running on time.

 Improved safety