Vandalay Industries is considering the purchase of a new machine for the product

Question

Vandalay Industries is considering the purchase of a new machine for the production of latex. Machine A costs $1,980,000 and will last for 4 years. Variable costs are 37 percent of sales, and fixed costs are $148,000 per year. Machine B costs $4,320,000 and will last for 7 years. Variable costs for this machine are 26 percent of sales and fixed costs are $113,000 per year. The sales for each machine will be $8.64 million per year. The required return is 10 percent and the tax rate is 35 percent. Both machines will be depreciated on a straight-line basis. Required: (a) If the company plans to replace the machine when it wears out on a perpetual basis, what is the EAC for machine A? (Do not round your intermediate calculations.) (b) If the company plans to replace the machine when it wears out on a perpetual basis, what is the EAC for machine B? (Do not round your intermediate calculations.)

Explanation / Answer

Machine-A become cash +ve in the 1st year and Machine be become cash +ve in the 2nd year.

A B Cost of the machine 1980000 4320000 Sales 8640000 8640000 Life of the machine in years 4 7 Fixed Cost 148000 113000 Variable Cost=Percent*8640000 3196800 2246400 Depriciation 495000 617142.9 Profit (Sales-FC-VC-Depriciation) 4800200 5663457 Tax @35% 1680070 1982210 Net Profit after Tax 3120130 3681247 Funds Flow of Machine A 0 1 2 3 4 Cost of Machine 1980000 Income with 10% discount 2836482 2578620 2344199.8 2131091 Depriciation with 10% discount 450000 409090.9 371900.83 338091.7 Cash Flow -1980000 3286482 2987711 2716100.7 2469182 Net Cash Flow -1980000 1306482 4294193 7010293.2 9479476 Funds Flow of Machine B 0 1 2 3 4 5 6 7 Cost of Machine 4320000 Income with 10% discount 3346588 3042353 2765775.4 2514341 2285765 2077968 1889062 Depriciation with 10% discount 561039 510035.5 463668.6 421516.9 383197.2 348361.1 316691.9 Cash Flow -4320000 3907627 3552388 3229444 2935858 2668962 2426329 2205754 Net Cash Flow -4320000 -412373 3140016 6369459.5 9305318 11974280 14400609 16606362

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