Reference no: EM133399934

Lifetime Pet Food produces a vast variety pet food from the highest quality raw materials. Located in St Marys, Ontario. In the middle of Ontario's agricultural belt, the company is ideally located for local ingredients and distribution throughout Canada and USA. Lifetime Pet Food is planning on upgrading its packaging equipment by purchasing a new one. The new packaging equipment would cost $563,000, would last 7 years, and would have a salvage value of $18,500. It would qualify as a CCA class 8 (20% CCA) asset. The existing packaging equipment has a net book value of $75,000, and could be sold for $63,800. If kept, the old equipment would have a salvage value of $7,500 in 7 years. The new packaging equipment is expected to lower direct labour costs by $84,600 per year. The current variable overhead rate is 95% of direct labour. Other annual cost savings are projected to be $26,750. Due to the reduction in the production cycle time, working capital requirements will decrease by $70,500 during the life of the new packaging equipment. Assume that the marginal tax rate is 40% and that the cash flows occur at the end of the year.

1. Calculate the net present value of replacing the existing equipment at a 15 percent required rate of return. Show all supporting calculations/work.

2. Based on your calculations in part 1, would you recommend replacing the packaging equipment? Why or why not? What other factors would you suggest taking into consideration when making the decision? Why?