Reference no: EM133290988
Case: A new machine with an eight-year lifespan is something you're thinking about replacing an existing one. The new machine will cost $635,000 to buy, and transportation and installation costs will be an additional $100,000. For depreciation, this new machine is classified under the 5-year MACRS. The new machine is anticipated to have a market value of $260,000 after its eight-year lifespan.
The existing machinery has been in operation for seven years and is anticipated to last another eight. You paid a total of $485k for the equipment seven years ago. You are straight-line depreciating this present equipment to an anticipated $110,000 salvage value. You predict that the equipment will be worth $127,000 after 8 years and $264,000 today.
With the purchase of the new machinery, you predict that inventories would rise by $58,000 and accounts receivable will rise by $65,000. If you continue to operate the old machine, you estimate that you can produce and sell 124,000 units per year at a selling price of $6 per unit. Variable costs associated with running the old machine are $1.93 per unit, and fixed costs associated with the old machine are $118,500 annually. If you switch to the new machine, you predict that you can produce and sell 142,500 units at a selling price of $8 per unit. You estimate the variable costs associated with running the new machine to be $2.75 per unit, while estimated fixed costs are $130,425 annually.
Presume the company cost of capital is 10 percent and that your company's marginal tax rate is 20 percent.
| Tax Depreciation - (MACRS) |
| Ownership Yr |
5-Yr |
| 1 |
20% |
| 2 |
32% |
| 3 |
19% |
| 4 |
11.5% |
| 5 |
11.5% |
| 6 |
6% |
Question: Should you replace the old piece of equipment with the new one under consideration? Substantiate your answer using NPV, IRR, and MIRR.