Question

Vandalay Industries is considering the purchase of a new machine for the production of latex. Machine A costs $1,820,000 and will last for 6 years. Variable costs are 34 percent of sales, and fixed costs are $148,000 per year. Machine B costs $4,670,000 and will last for 10 years. Variable costs for this machine are 31 percent of sales and fixed costs are $111,000 per year. The sales for each machine will be $9.34 million per year. The required return is 10 percent and the tax rate is 35 percent. Both machines will be depreciated on a straight-line basis.

  

Required:

(a)	If the company plans to replace the machine when it wears out on a perpetual basis, what is the EAC for machine A? (Do not round your intermediate calculations.)
	(Click to select)$-4,067,882$3,598,941.23$-2,472,058.77$-10,766,460.39$-3,680,464.67

  

(b)	If the company plans to replace the machine when it wears out on a perpetual basis, what is the EAC for machine B? (Do not round your intermediate calculations.)
	(Click to select)$-15,673,137.76$-10,459,408.03$-11,560,398.35$3,520,269.01$-2,550,730.99

Please show work or excel formulas.

Answer 1

Machine A:

Cost of Machine = $1,820,000
Useful Life = 6 years

Annual Depreciation = Cost of Machine / Useful Life
Annual Depreciation = $1,820,000 / 6
Annual Depreciation = $303,333.33

Variable Costs = 34% * Sales
Variable Costs = 34% * $9,340,000
Variable Costs = $3,175,600

Pretax Operating Costs = Variable Costs + Fixed Costs
Pretax Operating Costs = $3,175,600 + $148,000
Pretax Operating Costs = $3,323,600

Annual OCF = Pretax Operating Costs * (1 - tax) + tax * Depreciation
Annual OCF = -$3,323,600 * (1 - 0.35) + 0.35 * $303,333.33
Annual OCF = -$2,054,173.3345

NPV = -$1,820,000 - $2,054,173.3345 * PVIFA(10%, 6)
NPV = -$1,820,000 - $2,054,173.3345 * 4.35526
NPV = -$10,766,458.9568

EAC = NPV / PVIFA(10%, 6)
EAC = -$10,766,458.9568 / 4.35526
EAC = -$2,472,058.77

Machine B:

Cost of Machine = $4,670,000
Useful Life = 10 years

Annual Depreciation = Cost of Machine / Useful Life
Annual Depreciation = $4,670,000 / 10
Annual Depreciation = $467,000

Variable Costs = 31% * Sales
Variable Costs = 31% * $9,340,000
Variable Costs = $2,895,400

Pretax Operating Costs = Variable Costs + Fixed Costs
Pretax Operating Costs = $2,895,400 + $111,000
Pretax Operating Costs = $3,006,400

Annual OCF = Pretax Operating Costs * (1 - tax) + tax * Depreciation
Annual OCF = -$3,006,400 * (1 - 0.35) + 0.35 * $467,000
Annual OCF = -$1,790,710

NPV = -$4,670,000 - $1,790,710 * PVIFA(10%, 10)
NPV = -$4,670,000 - $1,790,710 * 6.14457
NPV = -$15,673,142.9447

EAC = NPV / PVIFA(10%, 10)
EAC = -$15,673,142.9447 / 6.14457
EAC = -$2,550,730.99