Bilboa Freightlines, S.A., of Panama, has a small truck that it uses for intraci
ID: 2804962 • Letter: B
Question
Bilboa Freightlines, S.A., of Panama, has a small truck that it uses for intracity deliveries. The truck is worn out and must be either overhauled or replaced with a new truck. The company has assembled the following information: Present Truck New Truck Purchase cost new $ 27,000 $ 36,000 Remaining book value $ 14,000 - Overhaul needed now $ 13,000 - Annual cash operating costs $ 14,000 $ 11,500 Salvage value-now $ 9,000 - Salvage value-five years from now $ 5,000 $ 8,000 If the company keeps and overhauls its present delivery truck, then the truck will be usable for five more years. If a new truck is purchased, it will be used for five years, after which it will be traded in on another truck. The new truck would be diesel-operated, resulting in a substantial reduction in annual operating costs, as shown above. The company computes depreciation on a straight-line basis. All investment projects are evaluated using a 13% discount rate. Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables. Required: 1-a. Use the total-cost approach to net present value. (Any cash outflows should be indicated by a minus sign. Round discount factor(s) to 3 decimal places.)
1-b. Should Bilboa Freightlines keep the old truck or purchase the new one? purchase new truck or keep the old truckExplanation / Answer
The incremental-cost approach:
Item
Year(s)
Amount of Cash Flows
16% Factor
Present Value of Cash Flows
Incremental investment—new truck*
Now
($23,000)
1
($23,000)
Salvage of the old truck
Now
$9,000
1
9,000
Savings in annual cash operating costs
10-Jan
$3,500
3.51723
12,310
Difference in salvage value in 10 years
10
$3,000
0.54276
$1,628.28
Net present value in favor of keeping the old truck
($61.42)
PVAf at 13% for 5 years
1-(1+r)^-n /r
1-(1.13)^-5 /.13
3.51723
36,000 – 13000 = 23000. The 9000 salvage value now of the old truck could also be deducted, leaving an incremental investment for the new truck of only 14000
Keep the old truck
The incremental-cost approach:
Item
Year(s)
Amount of Cash Flows
16% Factor
Present Value of Cash Flows
Incremental investment—new truck*
Now
($23,000)
1
($23,000)
Salvage of the old truck
Now
$9,000
1
9,000
Savings in annual cash operating costs
10-Jan
$3,500
3.51723
12,310
Difference in salvage value in 10 years
10
$3,000
0.54276
$1,628.28
Net present value in favor of keeping the old truck
($61.42)
PVAf at 13% for 5 years
1-(1+r)^-n /r
1-(1.13)^-5 /.13
3.51723
36,000 – 13000 = 23000. The 9000 salvage value now of the old truck could also be deducted, leaving an incremental investment for the new truck of only 14000
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