Sumit Electronic is considering a proposal to replace one of its machine. In this regard, the following information is available.
The existing machine was brought 3 years ago for Rs. 10 yrs. Lacs. It was depreciated at 25 percent p.a. on reducing balance basis. It has remaining useful life of 5 years, but its annual maintenance cost is expected to increase by Rs. 50000.00 from the sixth year of its installation. Its present realisable value is 6 lac. The company has several machines, having 25 percent depreciation. The new machine cost Rs. 15 lac and is subject to the same rate of depreciation. On the sale after 5 yrs, it is expected to net Rs. 6 lacs. With the new machine, the annual operating cost (excluding deprecation) are expected to decrease by Rs. 1 Lac. In addition, the new machine would increase productivity on account of which net revenues would increase by 1 – 5 lac. annually.
The tax rate applicable to the firm is 35% and the cost of capital 10%. Is the proposal financially viable? Advise on the basis of NPV of the proposal.
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