Bramlett Plc is considering a new project, code named PJ6. This project requires an initial investment of £100,000 in a new machine. This machine is expected to have an economic useful life of 5 years. The company usually depreciates this type of machinery at 20% on a reducing balance method. Running cost is expected to be £5,000 for the first year, payable at the end of the year, and is increased by 10% p.a. thereafter. The residual value for the machine is expected to be £30,000 in the fifth year. Production can begin as soon as the new machine is installed. An initial one-off cost for clearing the existing factory for the machine is estimated to be £10,000. The annual demand is expected to be 12,000 units in the next 5 years. Each product is priced at £20 each and requires 4 kgs of materials and 2 hours of skilled labour. There are 40,000 kgs of materials in stock They have no other use in the company. The company can buy or sell these materials in the open market for £1.50 per kg. Only for next year the company has contracted 10,000 skilled labour hours for another production, which has never been commenced. According to the contract, the company would have to pay the skilled labour the wages regardless if they work or not on any production. The normal wage for skilled labour is £4 per hour. Required: (a) Determine the relevant costs for each of the 5 years of this project PJ6. (b) How are relevant costs used in the decision-making process? What are the features of relevant costs? Provide examples and discuss them.
Bramlett Plc is considering a new project, code named PJ6. This project requires an initial investment of £100,000 in a new machine. This machine is expected to have an economic useful life of 5 years. The company usually depreciates this type of machinery at 20% on a reducing balance method. Running cost is expected to be £5,000 for the first year, payable at the end of the year, and is increased by 10% p.a. thereafter. The residual value for the machine is expected to be £30,000 in the fifth year. Production can begin as soon as the new machine is installed. An initial one-off cost for clearing the existing factory for the machine is estimated to be £10,000. The annual demand is expected to be 12,000 units in the next 5 years. Each product is priced at £20 each and requires 4 kgs of materials and 2 hours of skilled labour. There are 40,000 kgs of materials in stock They have no other use in the company. The company can buy or sell these materials in the open market for £1.50 per kg. Only for next year the company has contracted 10,000 skilled labour hours for another production, which has never been commenced. According to the contract, the company would have to pay the skilled labour the wages regardless if they work or not on any production. The normal wage for skilled labour is £4 per hour. Required: (a) Determine the relevant costs for each of the 5 years of this project PJ6. (b) How are relevant costs used in the decision-making process? What are the features of relevant costs? Provide examples and discuss them.
Chapter9: Capital Budgeting And Cash Flow Analysis
Section: Chapter Questions
Problem 10P
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Transcribed Image Text:Bramlett Plc is considering a new project, code named PJ6. This project requires
an initial investment of £100,000 in a new machine. This machine is expected to have
an economic useful life of 5 years. The company usually depreciates this type of
machinery at 20% on a reducing balance method. Running cost is expected to be
£5,000 for the first year, payable at the end of the year, and is increased by 10% p.a.
thereafter. The residual value for the machine is expected to be £30,000 in the fifth
year.
Production can begin as soon as the new machine is installed. An initial one-off cost for
clearing the existing factory for the machine is estimated to be £10,000. The annual
demand is expected to be 12,000 units in the next 5 years.
Each product is priced at £20 each and requires 4 kgs of materials and 2 hours of
skilled labour. There are 40,000 kgs of materials in stock They have no other use in the
company. The company can buy or sell these materials in the open market for £1.50
per kg.
Only for next year the company has contracted 10,000 skilled labour hours for another
production, which has never been commenced. According to the contract, the company
would have to pay the skilled labour the wages regardless if they work or not on any
production. The normal wage for skilled labour is £4 per hour.
Required:
(a) Determine the relevant costs for each of the 5 years of this project PJ6.
(b) How are relevant costs used in the decision-making process? What are the
features of relevant costs? Provide examples and discuss them.
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