ACCT 505 Week 7 Capital Budgeting Decison Johnnie and Sons Paints Inc
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Nhan Van Tran AC 505 Managerial Accounting Johnnie &Son Paints Inc. Data: Cost of new equipment $ 200,000 Expected life of equipment in years 5 years Disposal value in 5 years $ 40,000 Life production - number of cans ### Annual production or purchase needs ### Number of workers needed 3 Annual hours to be worked per employee 2300 hours Earnings per hour for employees $ 8.50 Annual health benefits per employee $ 1,500 Other annual benefits per employee-% of wag 18% Cost of raw materials per can $ 0.20 Other variable production costs per can $ 0.10 Costs to purchase cans - per can $ 0.50 Required rate of return 10% Tax rate 35% Cost to produce Making Purchasing Annual cost to purchase cans $500,000 Annual cost of direct material: Need of 1,100,000 cans per year $ 200,000 Annual variable production costs per can Other variable production costs pe $ 100,000 Annual cost of direct labor for new employees: Payroll for the three employees $ 58,650 Annual health benefits $ 4,500 Other annual benefits $ 10,557 Total wages and benefits $ 73,707 Total annual production costs $ 373,707 $500,000
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Capital budgeting example
Transcript of ACCT 505 Week 7 Capital Budgeting Decison Johnnie and Sons Paints Inc
Nhan Van TranAC 505 Managerial Accounting
Johnnie &Son Paints Inc.
Data:Cost of new equipment $ 200,000 Expected life of equipment in years 5 yearsDisposal value in 5 years $ 40,000 Life production - number of cans $ 5,000,000 Annual production or purchase needs $ 1,000,000 Number of workers needed 3Annual hours to be worked per employee 2300 hoursEarnings per hour for employees $ 8.50 Annual health benefits per employee $ 1,500 Other annual benefits per employee-% of wages 18%Cost of raw materials per can $ 0.20 Other variable production costs per can $ 0.10 Costs to purchase cans - per can $ 0.50 Required rate of return 10%Tax rate 35%
Cost to produce Making PurchasingAnnual cost to purchase cans $ 500,000 Annual cost of direct material:
Need of 1,100,000 cans per year $ 200,000 Annual variable production costs per can
Other variable production costs per can $ 100,000 Annual cost of direct labor for new employees:
Payroll for the three employees $ 58,650 Annual health benefits $ 4,500
Other annual benefits $ 10,557
Total wages and benefits $ 73,707
Total annual production costs $ 373,707 $ 500,000 Advantage of making parts $ (126,293)
Nhan Van TranAC 505 Managerial Accounting
Annual cash Saving before Tax $ 126,293 Annual depreciation = (200000 - 40000) / $ 32,000 Tax savings due to depreciation $ 11,200
Cash flows over the life of the projectBefore Tax Tax Effect After Tax
Item Amount Amount Annual cash savings (make vs. buy) $ 126,293 0.65 $ 82,090
Tax savings due to depreciation $ 32,000 0.35 $ 11,200
Total annual cash flow $ 93,290
Tax effect on Annual Cash Savings is 1 - tax rate = 1 - 0.35 = 0.65Tax effect on Depreciation is the tax rate = 0.35
Payback Period Initial Investment/Annual Cash Saving$160,000/ $93,290 = 1.7 years
Annual rate of returnAccounting income as result of decreased costs
Annual cash savings (before tax effect) $ 126,293 Less Depreciation $ (32,000) Income before tax $ 94,293 Tax at 35% rate $ (33,003)After tax income $ 61,290
Beginning investment $ 160,000 Annual rate return Using Beginning investment = Income after taxes / beg investment"$61,290/$200,000 = 38.31%
Nhan Van TranAC 505 Managerial Accounting
Net Present ValueBefore Tax After tax 12% PV Present
Item Year Amount Tax % Amount Factor ValueCost of machine 0 $ (200,000) $ (200,000) 1 $ (200,000.00)Annual cash savings 1-5 $ 126,293 0.65 $ 82,090 3.605 $ 295,936.07 Tax savings due to depreciation 1-5 $ 32,000 0.35 $ 11,200 3.605 $ 40,376.00
Disposal value 5 $ 40,000 $ 40,000 0.567 $ 22,680.00
Net Present Value $ 158,992.07
Internal Rate of Return
Excel Function method to calculate IRRItem Year AmountCost of machine 0 $ (200,000)Year 1 inflow 1 $ 93,290 Year 2 inflow 2 $ 93,290 Year 3 inflow 3 $ 93,290 Year 4 inflow 4 $ 93,290
Year 5 inflow + 40,000 5 $ 133,290
$ 306,452
IRR 39.23%
