Question

Xinhong Company is considering replacing one of its manufacturing machines. The machine has a book value of $39,000 and a remaining useful life of four years, at which time its salvage value will be zero. It has a current market value of $49,000. Variable manufacturing costs are $33,500 per year for this machine. Information on two alternative replacement machines follows.

	Alternative A				Alternative B
Cost	$	118,000			$	112,000
Variable manufacturing costs per year		22,800				10,400

Calculate the total change in net income if Alternative A, B is adopted. Should Xinhong keep or replace its manufacturing machine? If the machine should be replaced, which alternative new machine should Xinhong purchase?

Answer 1

1
ALTERNATIVE A: INCREASE OR (DECREASE) IN NET INCOME
Cost to buy new machine	(118,000)
Cash received to trade in old machine	49,000
Reduction in variable manufacturing costs	42,800	=(33500-22800)*4
Total change in net income	(26,200)
2
ALTERNATIVE B: INCREASE OR (DECREASE) IN NET INCOME
Cost to buy new machine	(112,000)
Cash received to trade in old machine	49,000
Reduction in variable manufacturing costs	92,400	=(33500-10400)*4
Total change in net income	29,400
3
Alternative B should be selected