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 $240,438. 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 $390,900 2 399,800 3 410,100 4 425,400 5 434,000 6 434,900 7 436,400 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 $379,100. This new equipment would require maintenance costs of $94,000 at the end of the fifth year. The cost of capital is 9%. Click here to view PV table. Use the net present value method to determine the following: (If net present value is negative then enter with negative sign preceding the number e.g. -45 or parentheses e.g. (45). Round present value answer to 0 decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Calculate the net present value. Net present value $ Determine whether Hillsong should purchase the new machine to replace the existing machine?

Answer 1

Solution:

Computation of NPV - Replacement proposal of Sewing Machine - Hillsong Inc.
Particulars	Period	Amount	PV Factor (9%)	Present Value
Cash Outflows:
Cost of new sewing machine	0	$24,50,000	1	$24,50,000
Training cost	0	$85,000	1	$85,000
Sale value of current machine	0	-$2,40,438	1	-$2,40,438
Maintenance cost	5	$94,000	0.64993	$61,093
Present value of cash outflows (A)				$23,55,655
Cash Inflows:
Annual cost savings:
Year 1	1	$3,90,900	0.91743	$3,58,623
Year 2	2	$3,99,800	0.84168	$3,36,504
Year 3	3	$4,10,100	0.77218	$3,16,671
Year 4	4	$4,25,400	0.70843	$3,01,366
Year 5	5	$4,34,000	0.64993	$2,82,070
Year 6	6	$4,34,900	0.59627	$2,59,318
Year 7	7	$4,36,400	0.54703	$2,38,724
Salvage value of new machine	7	$3,79,100	0.54703	$2,07,379
Present value of cash Inflows (B)				$23,00,655
NPV (B-A)				-$55,001

No, Hillsong should not purchase the new machine to replace the existing machine.