Question

Differential Analysis for Machine Replacement

Kim Kwon Digital Components Company assembles circuit boards by using a manually operated machine to insert electronic components. The original cost of the machine is $93,300, the accumulated depreciation is $37,300, its remaining useful life is five years, and its residual value is negligible. On May 4 of the current year, a proposal was made to replace the present manufacturing procedure with a fully automatic machine that has a purchase price of $194,100. The automatic machine has an estimated useful life of five years and no significant residual value. For use in evaluating the proposal, the accountant accumulated the following annual data on present and proposed operations:

	Present Operations		Proposed Operations
Sales	$295,800		$295,800
Direct materials	$100,800		$100,800
Direct labor	70,000		—
Power and maintenance	6,500		34,500
Taxes, insurance, etc.	2,300		7,700
Selling and administrative expenses	70,000		70,000
Total expenses	$249,600		$213,000

a. Prepare a differential analysis dated May 4, to determine whether to continue with the old machine (Alternative 1) or replace the old machine (Alternative 2). Prepare the analysis over the useful life of the new machine. If an amount is zero, enter "0".

Differential Analysis
Continue with Old Machine (Alt. 1) or Replace Old Machine (Alt. 2)
May 4
	Continue with Old Machine (Alternative 1)	Replace Old Machine (Alternative 2)	Differential Effect on Income (Alternative 2)
Sales (5 years)	$	$	$
Costs:
Purchase price
Direct materials (5 years)
Direct labor (5 years)
Power and maintenance (5 years)
Taxes, insurance, etc. (5 years)
Selling and admin. expenses (5 years)
Income (Loss)	$	$	$

Answer 1

Differential Analysis
Continue with Old Machine (Alt. 1) or Replace Old Machine (Alt. 2)
May-04
	Continue with Old Machine	Replace Old Machine	Differential Effect on Income
	(Alternative 1)	(Alternative 2)	(Alternative 2)
Sales (5 years)	295,800 x 5 = 1,479,000	295,800 x 5 = 1,479,000	0
Costs:
Purchase price	0	-194,100	-194,100
Direct materials (5 years)	100,800 x 5 = -504,000	100,800 x 5 = -504,000	0
Direct labor (5 years)	70,000 x 5 = -350,000	—	350,000
Power and maintenance (5 years)	6,500 x 5 = -32,500	34,500 x 5 = -172,500	-140,000
Taxes, insurance, etc. (5 years)	2,300 x 5 = -11,500	7,700 x 5 = -38,500	-27,000
Selling and admin. expenses (5 years)	70,000 x 5 = -350,000	70,000 x 5 = -350,000	0
Income (Loss)	$231,000	$219,900	-$11,100