Question

Waterways puts much emphasis on cash flow when it plans for capital investments. The company chose its discount rate of 8% based on the rate of return it must pay its owners and creditors. Using that rate, Waterways then uses different methods to determine the best decisions for making capital outlays. In 2017 Waterways is considering buying five new backhoes to replace the backhoes it now has. The new backhoes are faster, cost less to run, provide for more accurate trench digging, have comfort features for the operators, and have 1-year maintenance agreements to go with them. The old backhoes are working just fine, but they do require considerable maintenance. The backhoe operators are very familiar with the old backhoes and would need to learn some new skills to use the new backhoes. The following information is available to use in deciding whether to purchase the new backhoes.

Old Backhoes New Backhoes

Purchase cost when new $90,000 $200,000

Salvage value now $42,000

Investment in major overhaul needed in next year . $55,000

Salvage value in 8 years $15,000 $90,000

Remaining life 8 years 8 years

Net cash flow generated each year $30,425 $43,900

(a) Evaluate in the following ways whether to purchase the new equipment or overhaul the old equipment. (Hint: For the old machine, the initial investment is the cost of the overhaul. For the new machine, subtract the salvage value of the old machine to determine the initial cost of the investment.)

(2) Using the payback method for each choice. (Hint: For the old machine, evaluate the payback of an overhaul.)

PLEASE help and explain how you got your answer I'll be so grateful

Answer 1

					Present Worth of
Nature of Cashf Flows	Year	Old Backoes	New Backoes	PVIF@8%	Old Backoes	New Backoes
Initial Investment	0	50926	158000	1	50925.92593	158000
Net Cash inflows	1	30425	43900	0.92592593	28171.2963	40648.1481
Net Cash inflows	2	30425	43900	0.85733882	26084.53361	37637.1742
Net Cash inflows	3	30425	43900	0.79383224	24152.34593	34849.2354
Net Cash inflows	4	30425	43900	0.73502985	22363.28327	32267.8105
Net Cash inflows	5	30425	43900	0.6805832	20706.74377	29877.6023
Net Cash inflows	6	30425	43900	0.63016963	19172.9109	27664.4466
Net Cash inflows	7	30425	43900	0.5834904	17752.69528	25615.2284
Net Cash inflows	8	30425	43900	0.54026888	16437.68081	23717.804
Salvage Value	8	15000	90000	0.54026888	8104.033268	48624.1996
		Net present Value of Inflows			182945.5231	300901.649
		Net present Value of Initial Investent			50925.92593	158000
		Present Value/Profitability Index		(PI)	3.592384818	1.90444082
Since, PI is more in case of Old Backoes, we will not consider buying new backoes
Requirement 2	Payback period				=50926/30425	=158000/43900
					1.674	3.599
Payback period					1 Years & 8 months	3 Year & 7.2 months
We will go with keeping Old backoes and decide not to buy new backoes as payback period for new backoes
are more than payback period for old backoes.