Hiland Inc. manufactures snowsuits. Hiland is considering purchasing a new sewin

Question

Hiland Inc. manufactures snowsuits. Hiland is considering purchasing a new sewing machine at a cost of $2.45 million. Its existing machine was purchased five years ago at a price of $1.8 million; six months ago, Hiland spent $55,000 to keep it operational. The existing sewing machine can be sold today for $242,340. The new sewing machine would require a one-time, $85,000 training cost. Operating costs would decrease by the following amounts for years 1 to 7:

Should Hiland Inc. purchase the new machine to replace the existing machine?

Year 1 $390,400 2 399,300 3 410,800 4 425,300 5 432,600 6 434,700 7 436,000 edugen.wileyplus.com References TABLE 1 Future Value of 1 (n) Periods 4% 5% 6% 7% 8% 9% 10% 11% 12% 15% 10 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.04000 1.05000 1.06000 1.07000 1.08000 1.09000 1.10000 1.11000 1.12000 1.15000 1.08160 1.10250 1.12360 1.14490 1.16640 1.18810 1.21000 1.23210 1.25440 1.32250 1.12486 1.15763 1.19102 1.22504 1.25971 1.29503 1.33100 1.36763 1.40493 1.52088 1.16986 1.21551126248 1.31080 1.36049 1.41158 1.46410151807 1.57352 1.74901 1.21665 1.27628 1.33823 1.40255 1.46933 1.53862 1.61051168506 1.76234 2.01136 1.26532 1.34010 1.41852 1.50073 1.58687 1.67710 1.77156 1.87041197382 2.31306 1.31593 1.40710 1.50363 1.60578 1.71382 1.82804 1.94872 2.07616 2.21068 2.66002 1.36857147746 1.59385 1.71819 1.85093 1.99256 2.14359 2.30454 2.47596 3.05902 1.42331 1.55133 1.68948 1.83846 1.99900 2.17189 2.35795 2.55803277308 3.51788 1.48024 1.62889 1.79085 1.96715 2.15892 2.36736 2.59374 2.83942 3.10585 4.04556 11 12 13 14 15 1.53945 1.71034 1.89830 2.10485 2.33164258043 2.85312 3.15176 3.47855 4.65239 1.60103 1.79586 2.01220 2.25219 2.51817281267 3.13843 3.49845 3.89598 5.35025 1.66507188565 2.13293 2.40985 2.71962 3.06581 3.45227388328 4.36349 6.15279 1.73168 1.97993 2.26090 2.57853 2.93719 3.34173 3.79750 4.31044 4.88711707571 1.80094 2.07893 2.39656 2.75903 3.17217 3.64248 4.17725 4.78459547357 8.13706 16 17 18 19 20 1.87298 2.18287 2.54035 2.95216 3.42594397031 4.59497531089 6.13039 9.35762 1.94790 2.29202269277 3.15882 3.70002 4.32763 5.05447589509 6.86604 10.76126 2.02582 2.40662 2.85434 3.37993 3.99602 4.71712 5.55992 6.54355 7.68997 12.37545 2.10685 2.52695 3.02560 3.61653 4.31570 5.14166 6.11591726334 8.61276 14.23177 2.19112265330 3.20714 3.86968 4.66096 5.60441 6.72750 8.06231964629 16.36654 CLOSE

Explanation / Answer

Part A)

Net present value is the difference between the present value of cash outflows and present value of cash inflows. The formula for calculating NPV is given below:

NPV = Cash Flow Year 0 + Cash Flow Year 1/(1+Discount Rate)^1 + Cash Flow Year 2/(1+Discount Rate)^2 + Cash Flow Year 3/(1+Discount Rate)^3 + Cash Flow Year 4/(1+Discount Rate)^4 + Cash Flow Year 5/(1+Discount Rate)^5 + Cash Flow Year 6/(1+Discount Rate)^6 + Cash Flow Year 7/(1+Discount Rate)^7

____________

Initial Investment (Cash Flow Year 0) = -2,450,000 (Cost) + 242,340 (Sales Value of Existing Machine) - 85,000 = -$2,292,660

Cash Flow in Year 5 = 432,600 (Savings in Cost) - 96,700 (Maintenance Cost) = $335,900

Cash Flow in Year 7 = 436,000 (Savings in Cost) + 380,800 (Salvage Value) = $816,800

For all the remaining years, cash flow will continue to be equal to the savings in operating cost.

___________

NPV = -2,292,660 + 390,400/(1+9%)^1 + 399,300/(1+9%)^2 + 410,800/(1+9%)^3 + 425,300/(1+9%)^4 + 335,900/(1+9%)^5 + 434,700/(1+9%)^6 + 816,800/(1+9%)^7 = -$55,578.90 or -$55,579

___________

Part B)

No, the new machine should not be purchased as it results in a negative NPV.

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