4. Differential analysis: Replacing equipment Batista Manufacturing has been usi

Question

4. Differential analysis: Replacing equipment

Batista Manufacturing has been using a particular machine for over 10 years and believes that it may be time to replace the machine. The company is trying to decide whether replacing the old machine is a wise economic decision. The company's controller puller together the following information on the old machine and the new machine:

Complete the following Two questions:

    A.             Differential Analysis

          Continue with Old Machine (Alternative 1) or Replace Old Machine (Alternative 2)

B. Complete the following statement made by Batista's controller in his presentation to management about whether to continue with the old machine or replace it with the new machine.

We______________ replace the old machine with the new one, because the revenue from the sale of the old machine___________ the differential cost of the new machine. The differential__________without considering interest or taxes is________.

Old Machine Original cost $493,000 Current accumulated depreciation 358,000 Estimated annual variable manufacturing costs for machine 85,500 Estimated selling price of machine 200,500 Estimated remaining useful life (in years) 6 New Mahcine Purchase cost $970,300 Estimated annual variable manufacturing costs for macine 52,200 Estimated residual value 0 Estimated useful life (in years) 6

Explanation / Answer

We should not replace the old machine with the new one, because the revenue from the sale of the old machine is less than the differential cost of the new machine. The differential loss without considering interest or taxes is 1,140,000

Continue with Old Machine (Alternative 1) Replace Old Machine (Alternative 2) Differential Effect on Income (Alternative 2) Revenues:                  Proceeds from sale of old machine                   200,500                               -                     200,500 Costs:                Purchase price                               -                     970,300 -                970,300    Annual variable costs (6 years)                   513,000                   313,200                   199,800    Total costs                   713,500               1,283,500 -                570,000 Income (loss)     -             1,140,000

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