La Familia Company limited is considering the purchase a high speed drill to replace the old one that they currently have.
The old drill was purchase 3 years ago at an installed cost of $500,000 and is estimated to have a usable life of 5 years.
The new drill is expected to cost $850,000 with $20,000 to be spent on installation and also has a 5 year usable life.
La Familia can sell the old drill at $60,000 inclusive of removal cost.
The purchase of this new drill will result in increase business and impact on the following:
At the end of the 5 years the new drill will have a residual value of $50,000 and should be sold for that amount.
La Familia funds it assets as follows:
Long term Bonds 25%
The interest on the bonds is 8%. The preferred stock pays dividends of 10%. The risk free rate is 4%, the beta on La Familia’s stock is 1.2 and the market risk premium is 8%.
La Familia tax rate is 25%
Straight line method of depreciation applies.
Earnings before depreciation and taxes are as follows: