Question

Consider the following two options related to one of the old but special machine tools in your machine shop. -Option 1: You continue to use the old machine tool that was bought four years ago for $11,000. It has been fully depreciated but can be sold for $2,200. If kept, it could be used for 5 more years with proper maintenance and with some extra care. No salvage value is expected at the end of 5 years. The maintenance costs would run $13,000 per year for the old machine tool. -Option 2: You purchase a brand-new machine tool at a price of $16,000 to replace the present equipment, it also has an expected economic life of 5 years and will have a salvage value of $2,000 at the end of that time. With the new machine tool, the expected operating and maintenance costs (with the scrap savings) amount to $4,000 each year for 5 years. What is the DIFFERENCE IN PRESENT WORTH between the two alternatives at an interest rate of 14%? Enter your answer as a positive number.

Answer 1

If we replaces the old machinery with the new one. then the difference in present worth is as follow:

Year	Net (Outflow)/Inflow (A)	Present value factor (B)	Present Value ( C ) = (A)*(B)	Remark
Year 0	-13800	1	-13800	13800 = 16000 new machine cost less 2200 realised from sale of old machine
Year 1	4000	0.8772	3508.77	Savings in maintenance cost
Year 2	4000	0.7695	3077.87	Savings in maintenance cost
Year 3	4000	0.6750	2699.88	Savings in maintenance cost
Year 4	4000	0.5921	2368.32	Savings in maintenance cost
Year 5	6000	0.5194	3116.21	Savings in maintnance cost and salvage value of new machine
		Net Present Worth	971.06

The difference in present worth of new machinery over old one is positive. So, it would be beneficial to install new machinery.