Nautical Creations is one of the largest producers of miniature ships in a bottl

Question

Nautical Creations is one of the largest producers of miniature ships in a bottle. An especially complex part of one of the ships needs special production equipment that is not useful for other products. The company purchased this equipment early in 2013 for $200,000. It is now early in 2017, and the manager of the Model Ships Division, Jeri Finley, is thinking about purchasing new equipment to make this part. The current equipment will last for six more years with zero disposal value at that time. It can be sold immediately for $40,000. The following are last year's total manufacturing costs, when production was 8,000 ships Direct materials Direct labor Variable overhead Fixed overhead Total $31,200 1%,Gill) 34,400 The cost of the new equipment is $130,000. It has a six year useful life with an estimated disposal value at that time of $45,000. The sales representative selling the new equipment stated, "The new equipment will allow direct labor and variable overhead combined to be reduced by a total of $2.20 per unit." Finley thinks this estimate is accurate, but also knows that a higher quality of direct material will be necessary with the new equipment, costing s0.19 more per unit. Fixed overhead costs will decrease by $4,600 Finley expects production to be 8,550 ships in each of the next six years. Assume a dscount rate of 3%. REQUIRED 1. What is the difference in net present values if Nautical Creations buys the new equipment instead of keeping their current equipment?

Explanation / Answer

cost Cost per ship number of ships 8550 Direct materials 31200 3.649122807 Direct labor 28400 3.321637427 Variable overhead 13600 1.590643275 Variable cost per unit 8.561403509 Fixed overhead 34400 Now if new equipment is purchased Unit cost Direct material (3.9+0.19) 3.839122807 Direct labor & variable overhead 2.712280702 per unit variable cost 6.551403509 Increase in fixed cost 4600 Total cost per year 60614.5 (6.55*8550ships)+4600 Relevat cost per year A 60614.5 PVIFA(3%,6) B 5.417191444 Present value of cost D=A*B 328360.3508 Salvage value s 45000 PVIF(3%,6) c 0.837484257 Present value of salvage E=S*C 37686.79155 Total present value of relevant cost Y= D-E 290673.5592 Add: Initial investment (130000-40000 of old equipment) X 90000 NPV X+Y 380673.5592 If old machine is used Cost A (8.56*8550) 73200 PVIFA(3%,6) B   5.417191444 Present value of cost D=A*B 396538.4137 Difference in NPV    -380673.5592-(-396538.4137) -15864.85447

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