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Awesome Gadgets (AG) produces keyboards for the computer industry. AG has managed to be debt free to date. There are 50,000 ordinary shares outstanding, with a market capitalization of $1 million. Equity holders require a return of 5 percent on their investment.
AG intends to diversify by manufacturing a new line of carbon fibre model keyboards. This venture will not raise the risk level of the company. The equipment to make such keyboards cost $10,000, which will be the depreciable base. AG uses straight-line depreciation for its non-current assets. The equipment is expected to last 2 years, at which time the equipment will be sold for $1,000 (after tax).
The expected demand is 500 keyboards per year. Each new keyboard will be priced at $10 in the first year and thereafter rise at 5 percent per year. Total variable costs are expected to be $2 per computer. The corporate tax is at 10 percent.
Required
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