Question

Hillsong Inc. manufactures snowsuits. Hillsong is considering purchasing a new sewing machine at a cost of $2.45 million. Its existing machine was purchased five years ago at a price of $1.8 million; six months ago, Hillsong spent $55,000 to keep it operational. The existing sewing machine can be sold today for $240,845. The new sewing machine would require a one-time, $85,000 training cost. Operating costs would decrease by the following amounts for years 1 to 7:

Year 1 $391,000

2 399,100

3 411,000

4 426,000

5 433,200

6 435,300

7 436,500

The new sewing machine would be depreciated according to the declining-balance method at a rate of 20%. The salvage value is expected to be $379,800. This new equipment would require maintenance costs of $94,900 at the end of the fifth year. The cost of capital is 9%

Calculate net present value

Answer 1

Ans:

Calculation of Net present value
				Amount in $
Year	Particulars	Cash Flow	PV Factor at 9% rate	Present Value
0	Cost of purchase of new machine	(2,450,000)	1.0000	(2,450,000)
0	Training cost for new machine purchase	(85,000)	1.0000	(85,000)
0	Realization on sale of old machine	240,845	1.0000	240,845
1	Decrease in operating cost	391,000	0.9174	358,703
2	Decrease in operating cost	399,100	0.8417	335,922
3	Decrease in operating cost	411,000	0.7722	317,374
4	Decrease in operating cost	426,000	0.7084	301,778
5	Decrease in operating cost	433,200	0.6499	281,537
5	Maintenance costs end of 5th year	(94,900)	0.5963	(56,589)
6	Decrease in operating cost	435,300	0.5963	259,569
7	Decrease in operating cost	436,500	0.5470	238,766
7	Salvage value	379,800	0.5470	207,764
Net Present Value	(49,330)
Note:-1.	Assuming decrease in operating cost is net decrease in cash outflow, means depreciation effect has already been given.
Note:-2.	As maintenance cost is to be incurred at the end of year 5 therefore PV factor of year 6 will be considered.
	PV Factor = 1/(1+r)^n
	Where
	r = cost of capital
	n = no. of periods