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    Capital Budgeting and Balanced Scorecard

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    Problem 7: Capital Budgeting
    A toy manufacturer that specializes in making fad items purchased a $80,000 molding machine
    for producing a special toy three years ago. The company is considering purchasing a newer,
    more efficient machine. If purchased, the new machine will be acquired today. Production and
    sales of 50,000 units per year (sales of $300,000) will be the same regardless of whether the
    company uses the old or new machine.

    The company has two options: (1) continue to operate the old machine or (2) sell the old
    machine and purchase the new machine. The following information has been assembled to
    help management decide which option is more desirable.

    Old machine New machine

    Initial purchase cost of machine $80,000 $100,000

    Estimated salvage value at the end of
    useful life for depreciation purposes $0 $10,000

    Useful life from date of acquisition 8 years 5 years

    Expected annual cash operating costs:
    Variable cost per unit $3.80 $2.50
    Total fixed costs $43,200 $28,800

    Depreciation method used for
    tax purposes Straight-line Sum-of-years'-digits

    Estimated cash disposal value of
    Today $55,000 $100,000
    Five years later $2,600 $7,200

    The company is subject to a 40% income tax rate and requires an after-tax return of at least
    10% on an investment.

    Use the Net Present Value (NPV) analysis to determine if the company should keep the old
    machine or replace it with the newer one. Also, consider some qualitative factors that might be
    important in making your decision. Please show all your work with appropriate calculations to
    support your decision.
    Problem 8: Balanced Scorecard

    Lee Corporation manufactures various types of color laser printers in a highly automated facility
    with high fixed costs. The market for laser printers is competitive. The various color laser
    printers on the market are comparable in terms of features and price. Lee believes that satisfying
    customers with products of high quality at low costs is a key to achieving its target profitability.
    For 2010, Lee plans to achieve higher quality and lower costs by improving yields and reducing
    defects in its manufacturing operations. Lee will train workers and encourage and empower
    them to take the necessary actions. Currently, a significant amount of Lee's capacity is used to
    produce products that are defective and cannot be sold. Lee expects that higher yields will
    reduce the capacity that Lee needs to manufacture products. Lee does not anticipate that
    improving manufacturing will automatically lead to lower costs because Lee has high fixed costs.
    To reduce fixed costs per unit, Lee could lay off employees and sell equipment, or it could use
    the capacity to produce and sell more of its current products or improved models of its current

    Lee's balanced scorecard (initiative omitted) for the just-completed fiscal year 2010 follows:
    Objectives Measures Target Performance Actual Performance
    Financial Perspective
    Increase shareholder
    value Operating-income
    changes from
    improvements $1,000,000 $400,000

    changes from growth $1,500,000 $600,000

    Customer Perspective
    Increase market share Market share in color
    laser printers 5% 4.6%

    Internal Business
    Process Perspective
    manufacturing quality First time yield 82% 85%

    Reduce delivery time
    to customers Order-delivery time 25 days 22 days
    Learning and Growth
    Develop process skills Percentage of
    employees trained in
    process and quality
    management 90% 95%


    1. Was Lee successful in implementing its strategy in 2010? Explain.

    2. Is Lee's balanced scorecard useful in helping the company understand why it did not reach its
    target market share in 2010? If it is, explain why. If it is not, explain what other measures you might want to add under the customer perspective and why.

    3. Would you have included some measure of employee satisfaction in the learning and grow
    perspective and new product development in the internal business process perspective? That is,
    do you think employee satisfaction and development of new products are critical for Lee to
    implement its strategy? Why or why not? Explain briefly.

    4. What problems, if any, do you see in Lee improving quality and significantly downsizing to
    eliminate unused capacity?

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    Solution Preview

    See the attachments.

    Problem 1:
    Old Machine
    Year 0 Year 1 Year 2 Year 3 Year 4
    Sales $ 300,000 $ 300,000 $ 300,000 $ 300,000 $ 300,000
    Initial purchase cost $ - $ - $ - $ - $ -
    Running cost of machine $ (43,200) $ (43,200) $ (43,200) $ (43,200) $ (43,200)
    variable cost $ (190,000) $ (190,000) $ (190,000) $ (190,000) $ (190,000)
    Cash disposal value $ 2,600
    Tax $ (22,720) $ (22,720) $ (22,720) $ (22,720) $ (23,760)
    cash inflow $ 44,080 $ 44,080 $ 44,080 $ 44,080 $ 45,640
    NPV = $168,066.52

    New Machine
    Year 0 Year 1 Year 2 Year 3 Year 4
    Sales $ 300,000 $ 300,000 $ 300,000 $ 300,000 $ 300,000
    Initial purchase cost $ (100,000)
    Running cost of machine $ (28,800) $ 28,800 $ 28,800 $ 28,800 $ 28,800
    variable cost $ (125,000) $ (125,000) $ (125,000) $ (125,000) $ (125,000)
    Cash disposal value $ 55,000 $ 7,200
    Tax $ (28,480) $ (71,920) $ (74,320) $ (76,720) $ (82,000)
    cash inflow $ 72,720 $ 131,880 $ 129,480 $ 127,080 $ ...

    Solution Summary

    The solution provides a problem and answer regarding capital budgeting and a balanced scorecard.