Union Bay Plastics is investigating the purchase of automated equipment that wou
ID: 2496924 • Letter: U
Question
Union Bay Plastics is investigating the purchase of automated equipment that would save $150,000 each year in direct labor and inventory carrying costs. This equipment costs $740,000 and is expected to have a 5-year useful life with no salvage value. The company's required rate of return is 12% on all equipment purchases. This equipment would provide intangible benefits such as greater flexibility and higher-quality output that are difficult to estimate and yet are quite significant. (Ignore income taxes.) Click here to view exhibit 13B-2, to determine the appropriate discount factor(s) using table. Required: what dollar value per year would the intangible benefits have to have in order to make the equipment an acceptable investment? (Round discount factor(s) to 3 decimal places, intermediate and final answers to the nearest dollar amount. omit the "S" sign in your response.) annual valueExplanation / Answer
The dollar value of the intangible benefits per year that would be appropriate to justify the purchase of the automated equipment will be that amount which will make the NPV of the cash flows associated with the machine zero.
Let The dollar value of the intangible benefits per year is M.
The initial investment = cost of the machine = $740000
Useful life is 5 years with no salvage value
Net savings from the tangible and intangible benefits = $ 150000 + M
NPV
= PV of cash value of the total benefits - Initial investments
= (150000 + M) * PVIFA ( 12%, 5) - 740000
= 150000 * 3.6048 + M * 3.6048 - 740000
By the condition, NPV = 0
150000 * 3.6048 + M * 3.6048 - 740000 = 0
540720 + 3.6048M - 740000 = 0
3.6048 M = 199280
M = 199280 / 3.6048 = $55282
Note: As there is no tax, depreciation will have no tax advantage and has not been considered in calculating the net cash flow from the savings provided by the tangible and intangible benefits on purchasing the equipment.
The required value of the intangible benefit to justify the purchase of the machine = $55282 per year.
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