Hillsong Inc. manufactures snowsuits. Hillsong is considering purchasing a new s

Question

Hillsong Inc. manufactures snowsuits. Hillsong 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, Hillsong spent $55,000 to keep it operational. The existing sewing machine can be sold today for $250,000. 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:

The new sewing machine would be depreciated according to the declining-balance method at a rate of 20%. The salvage value is expected to be $400,000. This new equipment would require maintenance costs of $100,000 at the end of the fifth year. The cost of capital is 9%.

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Use the net present value method to determine the following: (If net present value is negative then enter with negative sign preceding the number e.g. -45 or parentheses e.g. (45). Round present value answer to 0 decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

Calculate the net present value.

Year 1 $390,000 2 400,000 3 411,000 4 426,000 5 434,000 6 435,000 7 436,000

Explanation / Answer

Solution:

Computation of NPV - Replacement proposal of equipment - Hillsong Inc. Particulars Period Amount PV Factor Present Value Cash Outflows: Cost of new equipment 0 $2,450,000.00 1 $2,450,000 Sale value of old equipment 0 -$250,000.00 1 -$250,000 Training cost 0 $85,000.00 1 $85,000 Maintenane Cost 5 $100,000.00 0.64993 $64,993 Present value of cash outflows (A) $2,349,993 Cash Inflows: Decrease in operating cost: Year 1 1 $390,000.00 0.91743 $357,798 Year 2 2 $400,000.00 0.84168 $336,672 Year 3 3 $411,000.00 0.77218 $317,366 Year 4 4 $426,000.00 0.70843 $301,791 Year 5 5 $434,000.00 0.64993 $282,070 Year 6 6 $435,000.00 0.59627 $259,377 Year 7 7 $436,000.00 0.54703 $238,505 Salvage value of new machine 7 $400,000.00 0.54703 $218,812 Present value of cash Inflows (B) $2,312,391 NPV (B-A) -$37,602

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