SS Company is considering the replacement of its existing machine with a new machine. The Purchase price of the New machine is 26 Lakhs and its…

CA Final · Advanced Financial Management · MTP · September 2025
SS Company is considering the replacement of its existing machine with a new machine. The Purchase price of the New machine is 26 Lakhs and its expected Life is 8 years. The company follows straight-line method of depreciation on the original investment (scrap value is not considered for the purpose of depreciation). The other expenses to be incurred for the New Machine are as under: (i) Installation Charges - 9,000 (ii) Fees paid to the consultant for his advice to buy New Machine 6,000. (iii) Additional Working Capital required - 17,000. (will be released after 8 years) The written down value of the existing machine is 76,000, and its Cash Salvage Value is 12,500. The dismantling of this machine would cost - 4,500. The Annual Earnings (before tax but after depreciation) from the New Machine would amount to 3,15,000. Income tax rate is 35%. The Company's required Rate of Return is 13%. You are required to advise on the viability of the proposal. PVIF (13%, 8) = 0.376 PVIFA (13%, 8) = 4.80

Suggested Answer and Working Notes:

Working Notes: 1. Computation of Annual Depreciation- Particulars ₹ Purchase Price 26,00,000 Add: 1. Installation Charges 9,000 2. Fees Paid to Consultant for Advice 6,000 Total Cost of New Machine 26,15,000 Useful Life 8 Years Annual Depreciation (Total Cost/No. of Years) 3,26,875 2. Computation of Annual Cash Savings- Particulars ₹ Annual Earnings 3,15,000 Less-Tax @35% 1,10,250 Earning after Tax 2,04,750 Add-Depreciation on New Machine 3,26,875 Annual Cash Savings 5,31,625 3. Tax effect on sale of Old Machine- Particulars ₹ Proceeds of Sale 12,500 Less- Cost of Removal 4,500 Net Proceeds 8,000 Less: WDV 76,000 Net Loss due to Sale 68,000 Tax savings due to Loss on Sale @35% 23,800 Total Cash Inflow due to Sale (₹ 8,000+23,800) 31,800 4. Computation of Net Present Value Particulars Period Cash Flow (₹) PVF @13% PV (₹) (a) Annual Cash inflow after Tax 1-8 5,31,625 4.8 25,51,800 (b) Net Salvage Value of Existing Machine 0 31,800 1.0 31,800 (c) Working Capital Realized 8 17,000 0.376 6,392 Present Value of Cash Inflows 25,89,992 Less: 1. Initial Investment 0 26,15,000 1.0 26,15,000 2. Initial Working Capital 0 17,000 1.0 17,000 NPV of the Proposal (42,008) Decision: Since NPV of the project is negative it is not viable.

Topics: Advanced Capital Budgeting Decisions

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