Adams Products, Inc., manufactures a product it sells for $25. Adams sells all of the 24,000...


Adams Products, Inc., manufactures a product it sells for $25. Adams sells all of the 24,000 units per year it is capable of producing at the current time, and a marketing study indicates that it could sell 14,000 more units per year. To increase its capacity, Adams must buy a machine that has the capacity to produce 50,000 units of its product annually. The existing equipment can produce the product at a unit cost of $16. Today it has a book value of $80,000 and a market value of $60,000. The new equipment could produce 50,000 units at a unit cost of $12. The new equipment would cost $500,000 and would be depreciated uniformly over its five-year life. If the new machine is purchased, fixed operating costs will decrease by $20,000 per year.

If Adams's cost of capital is 18 percent and its tax rate is 30 percent, should Adams buy the new machine? Why?

Net Present Value Method:

Net present value is the capital budgeting method used to analyze the revenue that can be generated from the different projects available. It takes the present value of cash inflows and cash outflows to determine the acceptance of the project.

Answer and Explanation: 1

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First, we need to calculate the total units:

Total units = Existing production capacity + Expected units

Total units = 24,000 + 14,000

Total units...

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Learn more about this topic:

Evaluating a Budget Using the Net Present Value Method


Chapter 14 / Lesson 3

The net present value (NPV) method considered future cash flows to evaluate the value of capital projects—those that increase or decrease an enterprise's value. Learn how this method is calculated and guides budget decisions.

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