The Sweetwater Candy Company would like to buy a new machine that would automati

Question

The Sweetwater Candy Company would like to buy a new machine that would automatically "dip" chocolates. The dipping operation is currently done largely by hand. The machine the company is considering costs $180,000. The manufacturer estimates that the machine would be usable for five years but would require the replacement of several key parts at the end of the third year. These parts would cost $11,000, including installation. After five years, the machine could be sold for $7,000. The company estimates that the cost to operate the machine will be $9,000 per year. The present method of dipping chocolates costs $50,000 per year. In addition to reducing costs, the new machine will increase production by 6,000 boxes of chocolates per year. The company realizes a contribution margin of $1.50 per box. A 18% rate of return is required on all investments. Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using iabble. Required: 1. What are the annual net cash inflows that will be provided by the new dipping machine? Reduction in annual operating costs: Operating costs, present hand method Operating costs, new machine Annual savings in operating costs Increased annual contribution margin Total annual net cash inflows

Explanation / Answer

a Reduction in annual operating costs: Operating costs, present hand method 50000 Operating costs, new machine 9000 Annual savings in operating costs 41000 Increased annual contribution margin 9000 Total annual net cash inflows 50000 b Now 1 2 3 4 5 Purchase of machine -180000 Annual net cash inflows 50000 50000 50000 50000 50000 Replacement parts -11000 Salvage value 7000 Total cash flows -180000 50000 50000 39000 50000 57000 Discount factor(18%) 1 0.847 0.718 0.609 0.516 0.437 Present value -180000 42350 35900 23751 25800 24909 Net Present value -27290

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