Question

Exercise 12-3 (Video)

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 $246,028. 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		$389,000
	2		399,000
	3		410,000
	4		425,000
	5		432,000
	6		434,500
	7		436,000

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 $379,000. 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?

Yes No

Answer 1

Step 1
Calculation of Initial Outflow:
	Amount($)
Cost of new Machine	24,50,000
Less: Sale Proceeds of Old Machine	2,46,028
Add: Training Cost	85,000
Net Cash Outflow	22,88,972

Step 2
Calculation of Present Value of Inflow:
	1	2	3	4	5	6	7
Inflow($)	3,89,000	3,99,000	4,10,000	4,25,000	4,32,000	4,34,500	4,36,000
Less: Maintenance Cost	0	0	0	0	94,000	0	0
Add: Salvage Value	0	0	0	0	0	0	3,79,000
Net Cash Inflow	3,89,000	3,99,000	4,10,000	4,25,000	3,38,000	4,34,500	8,15,000
Discounted Factor (9%)	0.91743	0.84168	0.77218	0.70843	0.64993	0.59627	0.54703
Present value	3,56,880	3,35,830	3,16,594	3,01,083	2,19,676	2,59,079	4,45,829
Total Present Value = $22,34,972

Step 3

Net Present Value = Present value of inflow - Present value outflow

Net Present Value = $22,34,972 - $22,88,972 = -$54,000

Net present value of the new Machine is negative So, Hillsong Inc. should not purchase the new Machine.