Question

Durable Inc. is considering replacing an old drilling machine that cost $200,000 six years ago with a new one that costs $450,000. Shipping and installation cost an additional $60,000. The old machine has been depreciated using the straight-line (SL) method with no salvage value over an estimated 8-year useful life. The old machine can be sold for $40,000 now or $10,000 in two years. Management expects increases in net working capital of $30,000 (inventories up $10,000, accounts receivable up $32,000, accounts payable up $12,000) if the new machine is acquired. Durable's income tax rate is 30%.

What dollar amount should be used for the net original investment in time period 0 to conduct this replacement decision?

Group of answer choices

-$500,000

-$510,000

-$497,000

-$470,000

Answer 1

-$497,000

Purchase cost	-$450,000
Shipping and installation	-$60,000
Net working capital	-$30,000
Cash proceeds after tax	$43,000
Net original investment in time period 0	-$497,000
Calculation of cash proceeds after tax:
Net book value (NBV) of old asset:
Original cost	$200,000
Accumulated depreciation (200,000 × 6/8)	$150,000
	$50,000
Sale Value	$40,000
Loss on disposal	$10,000
Tax rate @ 30%
Cash inflow from savings in taxes	-$3,000
Cash proceeds after tax (40,000 + 3,000)	$43,000