Question

​Beryl's Iced Tea currently rents a bottling machine for

$51,000

per​ year, including all maintenance expenses. It is considering purchasing a machine​ instead, and is comparing two​ options:

A. Purchase the machine it is currently renting for

$150,000.

This machine will require

$22,000

per year in ongoing maintenance expenses.

B. Purchase a​ new, more advanced machine for

$250,000.

This machine will require

$17,000

per year in ongoing maintenance expenses and will lower bottling costs by

$10,000

per year.​ Also,

$38,000

will be spent upfront training the new operators of the machine.

Suppose the appropriate discount rate is

7%

per year and the machine is purchased today. Maintenance and bottling costs are paid at the end of each​ year, as is the rental of the machine. Assume also that the machines will be depreciated via the​ straight-line method over seven years and that they have a​ ten-year life with a negligible salvage value. The marginal corporate tax rate is

30%.

Should​ Beryl's Iced Tea continue to​ rent, purchase its current​ machine, or purchase the advanced​ machine? To make this​ decision, calculate the NPV of the FCF associated with each alternative.​ (Note: the NPV will be​ negative, and represents the PV of the costs of the machine in each​ case.)

Answer 1