Reference no: EM133116006

MAX Ltd is planning to buy a new asset at a cost of $90,000. The company's fixed cost, selling price and variable cost are $10,000, $20 and $5 respectively at the point of inception of the idea. The sales units will increase by 10% per year for a period of four years. The project requires investment in working capital of $2,000. Inflation is expected to be 6% per year and this will affect the selling price, variable costs and working capital. MAX Ltd pays a half of the tax in the year it occurs and the balance payable in the following year. The annual tax rate is 30% and The Company can claim capital allowances (tax-allowable depreciation) on a 25% reducing balance basis. A balancing allowance is claimed in the final year of operation. The debt-equity ratio is 2, the pretax cost of debt is 20% and cost of equity is 16%. The company plans to borrow in the near future and management has approached you for advice.

Required

-Using the NPV analysis, how much should MAX Ltd borrow?

-Is the loan worth undertaking? Advise MAX Ltd using pay back profitability