9.Replacement Analysis Although the Chen Company\'s milling machine is old, it i
ID: 2644344 • Letter: 9
Question
9.Replacement Analysis
Although the Chen Company's milling machine is old, it is still in relatively good working order and would last for another 10 years. It is inefficient compared to modern standards, though, and so the company is considering replacing it. The new milling machine, at a cost of $42,000 delivered and installed, would also last for 10 years and would produce after-tax cash flows (labor savings and depreciation tax savings) of $9,200 per year. It would have zero salvage value at the end of its life. The firm's WACC is 11%, and its marginal tax rate is 35%.
Should Chen buy the new machine?
I. Yes
II. No
Explanation / Answer
Initial Investment 42000 Savings per year after tax=9200*(1-0.35) 5980 Depriciation=42000/10 4200 Total cash and non-cash savings=5980+4200 10180 NPV of cash flow=PV of Savings Annuity(A=10180,I=11%,N=10)-42000=5.8892*10180-42000 17952.1 Yes, new milling machine should be purchased as the NPV is Positive.
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