The Sweetwater Candy Company would like to buy a new machine that would automati

Question

The Sweetwater Candy Company would like to buy a new machine that would automatically "dip" chocolates. The dipping operation is currently done largely by hand. The machine the company is considering costs $95,000. The manufacturer estimates that the machine would be usable for nine years but would require the replacement of several key parts at the end of the fifth year. These parts would cost $8,100, including installation. After nine years, the machine could be sold for $5,500.

The company estimates that the cost to operate the machine will be $9,500 per year. The present method of dipping chocolates costs $35,000 per year. In addition to reducing costs, the new machine will increase production by 4,600 boxes of chocolates per year. The company realizes a contribution margin of $0.8 per box. A 10% rate of return is required on all investments. (Ignore income taxes.)

A. What are the annual net cash inflows that will be provided by the new dipping machine?

B. Compute the new machine's net present value. Use the incremental cost approach.



Rate tables:

http://ezto.mhhmdemo.mcgraw-hill.com/servlet/TestPilot4/lazerwords/12532669500493800.tp4/exhibit12b-1.jpg

http://ezto.mhhmdemo.mcgraw-hill.com/servlet/TestPilot4/lazerwords/12532669500493800.tp4/exhibit12b-2.jpg

Explanation / Answer

The machine will be used for eight years. $28,000 (39,000 - 11,000) will be saved on labor annually. $3,920 (5,600x 0.70) in profits will be added annually. So the increase in cash flow will be 28,000 +3,920 = $31,920 per year, except for year 3 and year eight. Year 3 cash flow will be 31,920 - 8,500 = $23,420. Year 8 cash flow will be 31,920 + 6,100 = $38,020 The present value of the annual cash flows will be $160,696. Subtract the original investment of $95,000, to get the net present value of $65,696.

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