Question

1. AJAX Corporation is considering replacing their old machine with a new one. The old machine has 5 years of remaining life. The old machine has depreciation expenses of $500 per year for the remaining life. It can be sold for $4000 right now. If kept, it has no salvage value at the end of its life. The new machine which has a 5-year life costs $10,000 to purchase. The new machine falls into the MACRS 5-year class with the appreciation rates of 20.00%, 32.00%, 18.00%, 15% and 15%. The new machine will increase sales by $4000 per year. AJAX’s tax rate is 40% and they use 10% discount rate. Should they replace the old machine?

Answer 1

ANS.

here is book value = 500*5

                           = 2500

total gain on sale = 4000 - 2500

                          = 1500

tax on gain = 40%*1500

                 = 0.4*1500

                = 600

At 0 year initial cost = 10000-4000-600-0

                              = 6600

      year                 cost=1000*despreciation                 change in despreciation=despreciation-old despreciation

1.                       2000                                                      1500
2.                       3200                                                      2700
3.                       1800                                                      1300
4.                       1500                                                      1000
5.                       1500                                                      1000

now for find npv

    year                   cash flow                      pv factor@10%                       pv of cfat

   0.                      -6600                               1.0000                             -6600.00

1.                        3000                               0.9091                              2727.27
2.                        3480                               0.8264                              2876.03
3.                        2920                               0.7513                              2193.84
4.                        2800                               0.6830                              1912.44
5.                        2800                               0.6209                              1738.50

in above cash flow = earning(1-t)+change in depreciation*t

so npv is 4848.16

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