Reference no: EM13872044
A bicycle manufacturer currently produces 223,000 units a year and expects output levels to remain steady in the future. It buys chains from an outside supplier at a price of $2.20 a chain. The plant manager believes that it would be cheaper to make these chains rather than buy them. Direct in-house production costs are estimated to be only $1.40 per chain. The necessary machinery would cost $261,000 and would be obsolete after 10 years. This investment could be depreciated to zero for tax purposes using a 10-year straight-line depreciation schedule. The plant manager estimates that the operation would require additional working capital of $60,000 but argues that this sum can be ignored since it is recoverable at the end of the 10 years. Expected proceeds from scrapping the machinery after 10 years are $19,575.
If the company pays tax at a rate of 35% and the opportunity cost of capital is 15%, what is the net present value of the decision to produce the chains in-house instead of purchasing them from the supplier?
The annual free cash flow of 1-10=
The NPV of buying the chains from FCF=
The initial FCF of producing the chains=
The FCF of producing the chains years 1-9=
The FCF of year 10 producing the chains=
The NPV of producing the chains from FCF
The net present value of producing the chains in house instead of from the supplier=
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