Please provide details for ull credits 1. (10 points) Hagar Industrial Systems C

Question

Please provide details for ull credits 1. (10 points) Hagar Industrial Systems Company (HISC) is trying to decide between two 2 points/question for correct answer only different conveyor belt systems. System A costs $290,000, has a four-year life, and requires $85,000 in pretax annual operating costs. System B costs $405,000, has a six- year life, and requires $75,000 in pretax annual operating costs. Both systems are to be depreciated straight-ine to zero over their lives and will have zero salvage value. Suppose when a conveyor belt system wears out, it must be replaced. If the tax rate is 34 percent and the discount rate is 11 percent, which system should the firm choose and why?

Explanation / Answer

Here the two machines perform identical jobs. Hence the revenue generated from these work are same and hence are irrelevant to making a choice.Therefore present value of cash outflow need to evaluate. Since the lives of two machines are different, decision should be based on Equivalent Annual Cost (EAC). Ignore tax.

Decision : HISC should buy System B since its Equivalent Annual Cost cash outtflow is lower.

System A System B a Purchase Cost ($) 290,000 405,000 b Life of machines (years) 4 6 c Running cost per year ($) 85,000 75,000 d PVAF (based on life and 11% discount factor)                      3.102            4.231 e Present Value of Running cost of machine (c*d)                 263,670       317,325 f Cash outflow of machines (a+e)                 553,670       722,325 g Equivalent Annual Cost (f/d)                 178,488       170,722

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