X Company is considering replacing one of its machines in order to save operating costs. Operating costs with the current machine are $66,000 per year; operating costs with the new machine are expected to be $49,000 per year. The new machine will cost $70,000 and will last for 6 years, at which time it can be sold for $4,000. The current machine will also last for 6 more years but will have zero salvage value. Its current disposal value is $4,000. Assuming a discount rate of 8%, what is the net present value of replacing the current machine? [Note: For the capital budgeting questions, use the Present Value tables in the Coursepack or with the link after the last question A: $12,915 B: $15,111 C: $17,680 D: $20,685 E: $24,202 F: $28,316
Answer:
Correct option is B. $15111.
Explanation:
Step 1:
Intial Cash Investment = Cost of New Machine - Current Replace cost of old Machine
= $70000 - $4000
= $66000
Step 2:
Annual savings in cost = $66000 - $49000 = $17000
Present Value of Annual savings = $17000 x Present Value Annuity factor(r,n) + Salvage Value x Present Value interest factor(r,n)
= $17000 x Present Value Annuity factor(8%,6) + $4000 x Present Value interest Factor(8%,6)
= $17000 x 4.623 + $4000 x 0.630
= $78591 + $2520
= $81111
Step 3:
Net Present Value = Present Value of Annual savings - Intial Cash Investment
= $81111 - $66000
= $15111.
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