Question

In: Accounting

X Company is trying to decide whether to continue using old equipment to make Product A...

X Company is trying to decide whether to continue using old equipment to make Product A or replace it with new equipment that will have lower operating costs. The following information is available:

  • The new equipment will cost $51,000. Disposal value at the end of its 5-year useful life will be $5,000.
  • The old equipment was purchased 3 years ago for $22,000. It can be sold immediately for $5,000 but will have zero disposal value in 5 years.
  • Maintenance work, costing $3,500, will be necessary on the new equipment in Year 3.
  • The new equipment will result in $8,500 of operating cost savings each year.

Assuming a discount rate of 4%, what is the net present value of replacing the old equipment with the new equipment?

Solutions

Expert Solution

Calculation of Present Value if equipment replaced
Year Cash Flow Present value factor @4% Presnt Value
0 -46000 1.0000               (46,000)
1 8500 0.9615                   8,173
2 8500 0.9246                   7,859
3 12000 0.8890                 10,668
4 8500 0.8548                   7,266
5 13500 0.8219                 11,096
Net present value                    (938)
net present value of replacing the old equipment with the new equipment is $938 Negative
Caluclation of Cash Flow
Year Cost of Buying new equipment Salvage value of old equipment Operating Cost saving due to new equipment Maintenance Cost saving due to new equipment SALVAGE VALUE OF NEW EQUIPMENT Total
0 -51000 5000 -46000
1 8500 8500
2 8500 8500
3 8500 3500 12000
4 8500 8500
5 8500 5000 13500

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