Lang Industrial Systems Company (LISC) is trying to decide between two different
ID: 2632856 • Letter: L
Question
Lang Industrial Systems Company (LISC) is trying to decide between two different conveyor belt systems. System A costs $264,000, has a four-year life, and requires $81,000 in pretax annual operating costs. System B costs $372,000, has a six-year life, and requires $75,000 in pretax annual operating costs. Suppose LISC always needs a conveyor belt system; when one wears out, it must be replaced. Assume the tax rate is 34 percent and the discount rate is 8 percent.
Calculate the EAC for both conveyor belt systems. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places. (e.g., 32.16))
Lang Industrial Systems Company (LISC) is trying to decide between two different conveyor belt systems. System A costs $264,000, has a four-year life, and requires $81,000 in pretax annual operating costs. System B costs $372,000, has a six-year life, and requires $75,000 in pretax annual operating costs. Suppose LISC always needs a conveyor belt system; when one wears out, it must be replaced. Assume the tax rate is 34 percent and the discount rate is 8 percent.
Explanation / Answer
Solution:
Calculate the EAC for both conveyor belt systems.
Using the tax shield approach to calculate the OCF, the NPV of system A is:
OCFA = -$78,000(1-0.34) + 0.34($252,000/4)
OCFA= - $30,060
NPVA = - $252,000 - $30,060(PVIFA8%,4)
NPVA = - $351,562.53
And the NPV of system B is:
OCFB = -$72,000 (1
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