Question

Option to Wait: Your company is deciding whether to invest in a new machine. The new machine will increase cash flow by $375,000 per year. You believe the technology used in the machine has a 10-year life; in other words, no matter when you purchase the machine, it will be obsolete 10 years from today. The machine is currently priced at $2,100,000. The cost of the machine will decline by $150,000 per year until it reaches $1,350,000, where it will remain. If your required return is 12%, should you purchase the machine? If so, when should you purchase it? Can you please show the inputs in the BA II Finance calculator?

Answer #1

The problem is solved using NPV method. The NPV table is as follows

Year | Cost | Number of years life | P/A factor | PV of Cash inflows | NPV |

0 | -2100000 | 10 | 5.65 | 2118750 | 18750 |

1 | -1950000 | 9 | 5.328 | 1998000 | 48000 |

2 | -1800000 | 8 | 4.968 | 1863000 | 63000 |

3 | -1650000 | 7 | 4.564 | 1711500 | 61500 |

4.0000 | -1500000 | 6 | 4.111 | 1541625 | 41625 |

5 | -1350000 | 5 | 3.605 | 1351875 | 1875 |

The machine should be purchased in year 2 when its NPV is the highest.

The calculations are as below. Year represents the year of purchase. P/A factor is taken from the compound interest tables.

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