A new operating system for an existing machine is expected to cost $710,000 and

Question

A new operating system for an existing machine is expected to cost $710,000 and have a useful life of six years. The system yields an incremental after-tax income of $175,000 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $12,800.

A machine costs $450,000, has a $38,300 salvage value, is expected to last eight years, and will generate an after-tax income of $62,000 per year after straight-line depreciation.

Assume the company requires a 10% rate of return on its investments. Compute the net present value of each potential investment. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided.)

1. A new operating system for an existing machine is expected to cost $710,000 and have a useful life of six years. The system yields an incremental after-tax income of $175,000 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $12,800. (Round your answers to the nearest whole dollar.)

2. A machine costs $450,000, has a $38,300 salvage value, is expected to last eight years, and will generate an after-tax income of $62,000 per year after straight-line depreciation. (Round your answers to the nearest whole dollar.)

Explanation / Answer

1 Cost 710000 Salvage 12800 Life 6 Years Depreciation SLM Depreciation PA 116200 (Cost-Salvage)/Years After Dep & Tax Incre Income 175000 Add: Depreciation 116200 Cash Flow After Tax 291200 Year Cash Flows PVF @ 10% Present Value 0 -710000 1.00 -7,10,000 1 291200 0.91 2,64,727 2 291200 0.83 2,40,661 3 291200 0.75 2,18,783 4 291200 0.68 1,98,894 5 291200 0.62 1,80,812 6 291200 0.56 1,64,375 6 12800 0.56 7,225 NPV 5,65,477 2 Cost 450000 Salvage 38300 Life 8 Years Depreciation SLM Depreciation PA 51,462.50 (Cost-Salvage)/Years After Dep & Tax Incre Income 62000 Add: Depreciation 51462.5 Cash Flow After Tax 113462.5 Year Cash Flows PVF @ 10% Present Value 0 -450000 1.00 -4,50,000 1 113462.50 0.91 1,03,148 2 113462.50 0.83 93,771 3 113462.50 0.75 85,246 4 113462.50 0.68 77,496 5 113462.50 0.62 70,451 6 113462.50 0.56 64,047 7 113462.50 0.51 58,224 8 113462.50 0.47 52,931 8 38300 0.47 17,867 NPV 1,73,181

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