Question

One year​ ago, your company purchased a machine used in manufacturing for $95,000.

You have learned that a new machine is available that offers many advantages and you can purchase it for $165,000

today. It will be depreciated on a​ straight-line basis over 10 years and has no salvage value. You expect that the new machine will produce a gross margin​ (revenues minus operating expenses other than​ depreciation) of $45,000

per year for the next 10 years. The current machine is expected to produce a gross margin of $24,000

per year. The current machine is being depreciated on a​ straight-line basis over a useful life of 11​ years, and has no salvage​ value, so depreciation expense for the current machine is $8,636 per year. The market value today of the current machine is $60,000. Your​ company's tax rate is 40%​, and the opportunity cost of capital for this type of equipment is 12%.

The NPV of replacing the​ year-old machine is $ (Round to the nearest​ dollar.)

Should your company replace its​ year-old machine? (Y/N)

Answer 1

**Book value of old machine : 95000 - 8636 depreciation for one year = 86364

Loss on sale of old machine = 60000 - 86364 =- 26364

Tax saving due to loss = 26364 * .40 = -10545.6

After tax sale value = 60000-(-10545.6)

                          = 60000+ 10545.6

                           = 70545.6

**Depreciation on new machine = 165000/10 = 16500

	Year 0	1-10
Initial investment	-165000
After tax sale value from old machine	(70545.6)
Incremental gross margin		21000    [45000-24000]
less :Incremental depreciation		(7864)    [16500-8636]
Incremental income before tax		13136
less:tax		(5254.4 )     [13136*40%]
Income after tax		7881.6
Add:depreciation (non cash)		7864
Cash flow	-94454.4	15745.6
PVF12%`/PVAF12%`	1	5.65022
Present value of cash flow	-94454.4	88966.10

NPV = Present value of annual cash flow -Initial cost

             = 88966.10 - 94454.4

            = - 5488.3   (rounded to - 5488)

b)Since NPV is negative ,old machine should not be replaced.

**Find present value factor and present value annuity factor from their table respectively . at 12%