Question

One year​ ago, your company purchased a machine used in manufacturing for $110,000. You have learned that a new machine is available that offers many advantages and that you can purchase it for $150,000 today. The CCA rate applicable to both machines is 20%​; neither machine will have any​ long-term salvage value. You expect that the new machine will produce earnings before​ interest, taxes,​ depreciation, and amortization​ (EBITDA) of $40,000 per year for the next 10 years. The current machine is expected to produce EBITDA of $24,000 per year. All other expenses of the two machines are identical. The market value today of the current machine is $50,000. Your​ company's tax rate is 35%​, and the opportunity cost of capital for this type of equipment is 12%. Should your company replace its​ year-old machine?

What is the NPV of replacement?

Answer 1

NPV of Replacement

Book value of old machine=110000-20%=88000

Loss on sale of machine= 88000-50000= 38000

tax @ 35%

38000 x 35%= 13300

Cash inflow 0th year = 50000+13300= 63300

Cash outflow 0th year= 150000

Adjusted outflow= 150000-63300= 86700

Depreciation of new machine= 150000 x 20%= 30000

EBIT(1-5 years)= 40000- 30000= 10000

Net Income= 10000-35%= 6500

Cash Inflow(1-5 years)= 6500+30000= 36500

Cash Inflow 1-5 years = 36500

Discounted cash inflow= 36500 x PVIFA

= 36500 x 3.64= 131574

cash inflow 6-10 years= 40000-35%= 26000

Discounted cash inflow 6-10 years= 26000 x 5.65= 146906

NPV= PV of cash inflow- PV of cash outflow

= 131574+146906- 86700= 191780

Company should replace the machine