Question

One year​ ago, your company purchased a machine used in manufacturing for $110,000 You have learned that a new machine is available that offers many​ advantages; you can purchase it for $150,000 today. It will be depreciated on a​ straight-line basis over ten​ years, after which it has no salvage value. You expect that the new machine will contribute EBITDA​ (earnings before​ interest, taxes,​ depreciation, and​ amortization) of $40,000 per year for the next ten years. The current machine is expected to produce EBITDA of $20,000 per year. The current machine is being depreciated on a​ straight-line basis over a useful life of 11​ years, after which it will have no salvage​ value, so depreciation expense for the current machine is $10,000 per year. All other expenses of the two machines are identical. The market value today of the current machine is $50,000 Your​ company's tax rate is 20%​  and the opportunity cost of capital for this type of equipment is

10% Is it profitable to replace the​ year-old machine?The NPV of the replacement is ​$ ​(Round to the nearest​ dollar.)

Should your company replace its​ year-old machine? ​ (Select the best choice​ below.)

Answer 1

1]	Cost of the new machine	$ 150,000
	-After tax sale proceeds of old machine = 50000+(100000-50000)*20% =	$               60,000
	Incremental net initial investment	$               90,000
2]	Incremental EBITDA [40000-20000]	$               20,000
	-Incremental depreciation [15000-10000]	$                 5,000
	=Incremental EBIT	$               15,000
	-Tax at 20%	$                 3,000
	=Incremental NOPAT	$               12,000
	+Incremental depreciation	$                 5,000
	=Incremental OCF	$               17,000
3]	PV of annual incremental OCF = 17000*(1.1^10-1)/(0.1*1.1^10) =	$ 104,458
	-Initial investment	$               90,000
	NPV of replacement	$               14,458
4]	As the NPV is positive the company should replace the old machine.