Question

Esquire Company needs to acquire a molding machine to be used in its manufacturing process. Two types of machines that would be appropriate are presently on the market. The company has determined the following: (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Machine A could be purchased for $42,000. It will last 10 years with annual maintenance costs of $1,400 per year. After 10 years the machine can be sold for $4,410.

Machine B could be purchased for $35,000. It also will last 10 years and will require maintenance costs of $5,600 in year three, $7,000 in year six, and $8,400 in year eight. After 10 years, the machine will have no salvage value.

Required:
Assume an interest rate of 8% properly reflects the time value of money in this situation and that maintenance costs are paid at the end of each year. Ignore income tax considerations.

Calculate the present value of Machine A & Machine B. Which machine Esquire should purchase? (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Round your final answers to nearest whole dollar amount.)
  

Answer 1

ANSWER

Machine A:

Purchase Cost = $42,000
Annual Maintenance Cost = $1,400
Salvage Value = $4,410
Period = 10 years

Present Value = -$42,000 - $1,400 * PVA of $1 (8%, 10) + $4,410 * PV of $1 (8%, 10)
Present Value = -$42,000 - $1,400 * 6.7101 + $4,410 * 0.4632
Present Value = -$49,351

Machine B:

Purchase Cost = $35,000
Maintenance Cost in Year 3 = $5,600
Maintenance Cost in Year 6 = $7,000
Maintenance Cost in Year 8 = $8,400

Present Value = -$35,000 - $5,600 * PV of $1 (8%, 3) - $7,000 * PV of $1 (8%, 6) - $8,400 * PV of $1 (8%, 8)
Present Value = -$35,000 - $5,600 * 0.7938 - $7,000 * 0.6302 - $8,400 * 0.5403
Present Value = -$48,395

Present value of Machine B is higher than that of present value of Machine A. Therefore, Machine B should be selected.

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