Question

The manager of kinky is contemplating in investing a new machine that will cost 190,000 aed and has useful life of five years. The machine will yield (year-end) cost reductions about 50,000 aed in year one 60,000 aed in year two, 70,000 in year three, 80,000 in years four and 85,000 five.

1- what is the percent value of the cost saving of the machine if the discount rate is 7%?
2- should the manager invest in this new machine?

Answer 1

Solution)
a)

Year   Cost saving   PV Factor   PV of cost savings     
1   50,000   0.9346   46730.00     
2   60,000   0.8734   52404.00     
3   70,000   0.8163   57141.00     
4   80,000   0.7629   61032.00     
5   85,000   0.713   60605.00     
           277912.00     
NPV = 277912 - 190,000 = -87,912

b) The manager should not invest in this machine. The reason is that the above computed value of NPV is negative, thus depicts that cost savings are less than the initial cost.