Question

Relevant cash flows long dash—No terminal value  

 Central Laundry and Cleaners is considering replacing an existing piece of machinery with a more sophisticated machine. The old machine was purchased 3 years ago at a cost of

$47,500​,

and this amount was being depreciated under MACRS using a​ 5-year recovery period. The machine has 5 years of usable life remaining. The new machine that is being considered costs

$75,700 and requires $4,000 in installation costs. The new machine would be depreciated under MACRS using a​ 5-year recovery period. The firm can currently sell the old machine for

$55,600 without incurring any removal or cleanup costs. The firm is subject to a tax rate of 40%.

The revenues and expenses​ (excluding depreciation and​ interest) associated with the new and the old machines for the next 5 years are

given in the table

New machine			Old machine
Year	Revenue	Expenses ​(excluding depreciation and​ interest)		Revenue	Expenses ​(excluding depreciation and​ interest)
1	$749,000	$719,200		$673,100	$659,700
2	749,000	719,200		675,100	659,700
3	749,000	719,200		679,100	659,700
4	749,000	719,200		677,100	659,700
5	749,000	719,200		673,100	659,700

. ​(Table)

Rounded Depreciation Percentages by Recovery Year Using MACRS for First Four Property Classes
	Percentage by recovery​ year*
Recovery year	3 years	5 years	7 years	10 years
1	33​%	20​%	14​%	10​%
2	45​%	32​%	25​%	18​%
3	15​%	19​%	18​%	14​%
4	77​%	12​%	12​%	12​%
5		12​%	99​%	99​%
6		55​%	99​%	88​%
7			99​%	77​%
8			44​%	66​%
9				66​%
10				66​%
11				44​%
Totals	100​%	100​%	100​%	100​%
​*These percentages have been rounded to the nearest whole percent to simplify calculations while retaining realism. To calculate the actual depreciation for tax​ purposes, be sure to apply the actual unrounded percentages or directly apply​ double-declining balance​ (200%) depreciation using the​ half-year convention.

contains the applicable MACRS depreciation​ percentages.) Note: The new machine will have no terminal value at the end of 5 years.

a. Calculate the initial investment associated with replacement of the old machine by the new one.

b. Determine the incremental operating cash inflows associated with the proposed replacement.​ (Note: Be sure to consider the depreciation in year​ 6.)

c. Depict on a time line the relevant cash flows found in parts

​(a​) and ​(b​) associated with the proposed replacement decision.

Answer 1