X Company currently makes 7,000 units of a component part each year, but is cons

Question

X Company currently makes 7,000 units of a component part each year, but is considering buying it from a supplier for $7.80 each. The current annual cost of making the part is $59,000. The supplier wants X Company to sign a contract for the next five years. If X Company buys the part, it will be able to sell the equipment that it currently uses to make the part for $14,000, but the equipment will have no salvage value at the end of five years. Assuming a discount rate of 4%, what is the net present value of buying the part instead of making it?

Explanation / Answer

Solution:

Computation of NPV of buying the part - X Company Particulars Amount Period PV Factor Present Value Annual cost of buying -$54,600.00 1-5 3.62990 -$198,192.28 Saving in making cost $59,000.00 1-5 3.62990 $214,163.82 Cash inflow for sale of equipment $14,000.00 0 1 $14,000.00 Net Present Value of buying $29,971.54

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