BSU Inc. wants to purchase a new machine for $32,100, excluding $1,400 of instal

Question

BSU Inc. wants to purchase a new machine for $32,100, excluding $1,400 of installation costs. The old machine was bought five years ago and had an expected economic life of 10 years without salvage value. This old machine now has a book value of $2,100, and BSU Inc. expects to sell it for that amount. The new machine would decrease operating costs by $7,000 each year of its economic life. The straight-line depreciation method would be used for the new machine, for a six-year period with no salvage value.

Explanation / Answer

Total cost of the new machine = $ 32,100 + $ 1,400 = $ 33,500

Savings on operating costs = $ 7,000 x 6 = $ 42,000

Incremental savings = $ 42,000 - $ 33,500 = $ 8,500

As there is incremental savings of $ 8,500, BSU Inc. should purchase the new machine.

As the current salvage value of the old machine is equal to its book value, it is not relevant to decision making in this case.

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