Expert Chips is a manufacturer of prototype chips based in? Dublin, Ireland. Next? year, in 2015?, Expert Chips expects to deliver 562 prototype chips at an average price of $68,000. Expert ?Chips' marketing vice president forecasts growth of 70 prototype chips per year through 2021. That? is, demand will be 562 in 2015?, 632 in 2016?, 702 in 2017?, and so on. The plant cannot produce more than 547 prototype chips annually. To meet future? demand, Expert Chips must either modernize the plant or replace it. The old equipment is fully depreciated and can be sold for $3,700,000 if the plant is replaced. If the plant is? modernized, the costs to modernize it are to be capitalized and depreciated over the useful life of the updated plant. The old equipment is retained as part of the modernize alternative. The following data on the two options are? available:

Modernize Replace

Initial Investment in 2015 $35,300,000 $61,700,000

Terminal disposal value in 2021 $7,500,000 $17,300,000

Useful life 7 years 7 years

Total annual cash operating cost per prototype chip $51,500 $41,000

Expert Chips uses? straight-line depreciation, assuming zero terminal disposal value. For? simplicity, we assume no change in prices or costs in future years. The investment will be made at the beginning of 2015?, and all transactions thereafter occur on the last day of the year. Expert Chips' required rate of return is 18?%. There is no difference between the modernize and replace alternatives in terms of required working capital. Expert Chips has a special waiver on income taxes until 2021.

1. Sketch the cash inflows and outflows of the modernize and replace alternatives over the 2015-2021 period.

2. Calculate payback period for the modernize and replace alternatives.

3. Calculate net present value of the modernize and replace alternatives.

4. What factors should Expert Chips consider in choosing between the?alternatives?