Question

Special People Industries (SPI) is a nonprofit organization that employs only people with physical or mental disabilities. One of the organization’s activities is to make cookies for its snack food store. Several years ago, Special People Industries purchased a special cookie-cutting machine. As of December 31, 20x0, this machine will have been used for three years. Management is considering the purchase of a newer, more efficient machine. If purchased, the new machine would be acquired on December 31, 20x0. Management expects to sell 300,000 dozen cookies in each of the next six years. The selling price of the cookies is expected to average $1.15 per dozen.

Special People Industries has two options: continue to operate the old machine or sell the old machine and purchase the new machine. No trade-in was offered by the seller of the new machine. The following information has been assembled to help management decide which option is more desirable.

	Old Machine			New Machine
Original cost of machine at acquisition	$	80,000		$	120,000
Remaining useful life as of December 31, 20x0		6	years		6	years
Expected annual cash operating expenses:
Variable cost per dozen	$	0.38		$	0.29
Total fixed costs	$	21,000		$	11,000
Estimated cash value of machines:
December 31, 20x0	$	40,000		$	120,000
December 31, 20x6	$	7,000		$	20,000

Assume that all operating revenues and expenses occur at the end of the year.

Use Appendix A for your reference. (Use appropriate factor(s) from the tables provided.)

Required:

1-a. Use the net-present-value method to compute the net-present-value for the old machine and the new machine. The organization's hurdle rate is 16 percent.

1-b. Determine whether Special People Industries should retain the old machine or acquire the new machine.

Complete this question by entering your answers in the tabs below.

Req 1A

Req 1B

Use the net-present-value method to compute the net-present-value for the old machine and the new machine. The organization's hurdle rate is 16 percent. (Negative amounts should be indicated by minus sign.)

	Net Present Value
Old machine
New machine

Answer 1

	Old machine	New machine
Sales revenue per year	345000	345000
Variable expense per year	-114000	-87000
Fixed expense	-21000	-11000
Net operating income per year	210000	247000
Old machine	Amount	Present value factor	Present value
Machine cost
Annual operating income	210000	3.68474	773795
Salvage value	7000	0.41	2870
Total net present value			776665
New machine	Amount	Present value factor	Present value
Machine cost	-120000	1	-120000
Annual operating income	247000	3.68474	910131
Salvage for old machine	40000	1	40000
Salvage value	20000	0.41	8200
Total net present value			838331
So it is better to purchase new machine