X Company must decide whether to continue using its current equipment or replace
ID: 2573789 • Letter: X
Question
X Company must decide whether to continue using its current equipment or replace it with new, more efficient equipment. The following information is available for the current and new equipment:
Maintenance work will be necessary on the new equipment in Year 4, costing $2,500. The current equipment will last for 5 more years; the life of the new equipment is also 5 years. Assuming a discount rate of 8%, what is the net present value of replacing the current equipment
Current equipment Current sales value $10,000 Final sales value 2,000 Operating costs 70,000 New equipment Purchase cost $55,000 Final sales value 6,500 Operating cost savings 10,000Explanation / Answer
the net present value of replacing the current equipment:
Cash Outflow1:
Present cash outflow flow at year 1 for purchase of new equipment=Purchase Cost-Current sale Value of Old Equipment
=$ 55,000-$10,000=$45,000
Cash Outflow2:
Maintenance work will be necessary on the new equipment in Year 4, so Cash out flow=$2,500
Cash Inflow 1:
Operating cost savings from year1 to Year 5=$10,000 per year
Cash Inflow 2:
OpFinal Sale Value new equipment in Year 5=$10,000
Present Value Formula fro nth year@r%=1/(1+r)n
Here r= Discount rate
n= nth year
The net present value of replacing the current equipment:
Year Cash Out flow-1 Cash Out flow-2 Total Cash Outflow=A Cash In flow-1 Cash In flow-2 Total Cash Outflow=B Net Cash flow=B-A PV@8% NPV 1 45,000 - 45,000 10,000 10,000 -35,000 0.9259 -32,406.50 2 - - - 10,000 10,000 10,000 0.8573 8,573.00 3 - - - 10,000 10,000 10,000 0.7938 7,938.00 4 - 2,500 2,500 10,000 10,000 7,500 0.7350 5,512.50 5 - - - 10,000 10,000 20,000 20,000 0.6806 13,612.00 47,500 60,000 3,229.00Related Questions
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