Problem:
A widget manufacturer currently produces 200,000 units a year. It buys widget lids from an outside supplier at a price of $2 a lid. The plant manager believes that it would be cheaper to make these lids rather than buy them. Direct production costs are estimated to be only $1.50 a lid. The necessary machinery would cost $150,000 and would last 10 years. This investment could be written off for tax purposes using the seven year tax depreciation schedule. The plant manager estimates that the operation would require additional working capital of $30,000 but argues that this sum can be ignored since it is recoverable at the end of 10 years. If the company pays a tax rate of 35% and the opportunity cost of capital is 15%, would you support the plant managers proposal? State clearly any additional assumptions that you need to make.
In Excel.