Hiland Inc. manufactures snowsuits. Hiland is considering purchasing a new sewin

Question

Hiland Inc. manufactures snowsuits. Hiland is considering purchasing a new sewing machine at a cost of $2.45 million. Its existing machine was purchased five years ago at a price of $1.8 million; six months ago, Hiland spent $55,000 to keep it operational. The existing sewing machine can be sold today for $244,297. The new sewing machine would require a one-time, $85,000 training cost. Operating costs would decrease by the following amounts for years 1 to 7: Year 1 $389,500 2 400,200 3 410,700 4 425,800 5 432,700 6 434,600 7 437,500 The new sewing machine would be depreciated according to the declining-balance method at a rate of 20%. The salvage value is expected to be $380,000. This new equipment would require maintenance costs of $99,700 at the end of the fifth year. The cost of capital is 9%. (Refer the below table)

se the net present value method to determine the following: (If net present value is negative then enter with negative sign preceding the number e.g. -45 or parentheses e.g. (45). Round answer for present value to 0 decimal places, e.g. 125. Round for Discount Factor to 5 decimal places, e.g. 0.17986.)

a. Calculate the net present value.

Explanation / Answer

Part A)

Net present value is the difference between the present value of cash outflows and present value of cash inflows. The formula for calculating NPV is given below:

NPV = Cash Flow Year 0 + Cash Flow Year 1/(1+Discount Rate)^1 + Cash Flow Year 2/(1+Discount Rate)^2 + Cash Flow Year 3/(1+Discount Rate)^3 + Cash Flow Year 4/(1+Discount Rate)^4 + Cash Flow Year 5/(1+Discount Rate)^5 + Cash Flow Year 6/(1+Discount Rate)^6 + Cash Flow Year 7/(1+Discount Rate)^7

____________

Initial Investment (Cash Flow Year 0) = -2,450,000 (Cost) + 244,297 (Sales Value of Existing Machine) - 85,000 (Training Cost) = -$2,290,703

Cash Flow in Year 5 = 432,700 (Savings in Cost) - 99,700 (Maintenance Cost) = $333,000

Cash Flow in Year 7 = 437,500 (Savings in Cost) + 380,000 (Salvage Value) = $817,500

For all the remaining years, cash flow will continue to be equal to the savings in operating cost.

____________

NPV = -2,290,703 + 389,500/(1+9%)^1 + 400,200/(1+9%)^2 + 410,700/(1+9%)^3 + 425,800/(1+9%)^4 + 333,000/(1+9%)^5 + 434,600/(1+9%)^6 + 817,500/(1+9%)^7 = -$54,974.58 or $54,975 (answer)

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