Trail Power has been using the same machines to make its name brand clothing for
ID: 2474694 • Letter: T
Question
Trail Power has been using the same machines to make its name brand clothing for the last 5 years. A cost efficiency consultant has suggested that production costs may be reduced by purchasing more technologically advanced machinery. The old machines cost the company $450,000. The old machines presently have a book value of $145,000 and a market value of $37,000. They are expected to have a 5 year remaining life and zero salvage value. The new machines would cost the company $350,000 and have operating expenses of $19,000 a year. The new machines are expected to have a 5 year useful life and no salvage value. The operating expenses associated with the old machines are $55,000 a year. The new machines are expected to increase quality, justifying a price increase, and thereby increasing sales revenue by $35,000 a year. Select the true statement.
The company will be $37,000 better off over the 5 year period if it replaces the old equipment.
The company will be $53,000 better off over the 5 year period if it keeps the old equipment.
The company will be $90,000 better off over the 5 year period if it keeps the old equipment.
The company will be $42,000 better off over the 5 year period if it replaces the old equipment.
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Explanation / Answer
Incremental Investment in New Machine = 350,000 - 37,000
= $313,000
Incremenental Depreciation = (350,000-145,000)/5
= $41,000
Incremental Cash Inflow = Savings iN Operating expense + Increase in Sales
= (55,000-19,000) + 35,000
= $71,000
..
Required rate of Return (re) and tax rate not provided in the Question.
..
NPV =[ 71000*(1-Tax rate) + 41000*Tax Rate]*PVIFA(Re,5) - 313,000
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and choose the Option
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