Mountain Gear has been using the same machines to make its name brand clothing f

Question

Mountain Gear has been using the same machines to make its name brand clothing for the last five years. A cost efficiency consultant has suggested that production costs may be reduced by purchasing more technologically advanced machinery. The old machines cost the company $100,000. The old machines presently have a book value of $60,000 and a market value of $6,000. They are expected to have a five-year remaining life and zero salvage value. The new machines would cost the company $50,000 and have operating expenses of $9,000 a year. The new machines are expected to have a five-year useful life and no salvage value. The operating expenses associated with the old machines are $15,000 a year. The new machines are expected to increase quality, justifying a price increase, and thereby increasing sales revenue by $5,000 a year. Select the true statement.

Question 5 options:

1) The company will be $11,000 better off over the 5-year period if it replaces the old equipment. 2) The company will be $20,000 better off over the 5-year period if it keeps the old equipment. 3) The company will be $12,000 better off over the 5-year period if it replaces the old equipment. 4) The company will be $6,000 better off over the 5-year period if it replaces the old equipment.

Explanation / Answer

1) The company will be $11,000 better off over the 5-year period if it replaces the old equipment.

workings ( discounting not used)

If new maching is installed

net purchase value = (50000-6000)               = 44000

net operating expenses (9000-5000) x 5        = 20000

total expense                                               = 64000

old machine operating exp 15000 * 5              = 75000

so better off if new machine is installed           = $ 11000

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