Question

20. Problem 12.20 (Replacement Analysis) eBook The Darlington Equipment Company purchased a machine 5 years ago at a cost of $90,000. The machine had an expected life of 10 years at the time of purchase, and it is being depreciated by the straight-line method by $9,000 per year. If the machine is not replaced, it can be sold for $15,000 at the end of its useful life. A new machine can be purchased for $180,000, including installation costs. During its 5-year life, it will reduce cash operating expenses by $55,000 per year. Sales are not expected to change. At the end of its useful life, the machine is estimated to be worthless. MACRS depreciation will be used, and the machine will be depreciated over its 3-year class life rather than its 5-year economic life; so the applicable depreciation rates are 33%, 45%, 15%, and 7%. The old machine can be sold today for $60,000. The firm's tax rate is 40%. The appropriate WACC is 9%. a. If the new machine is purchased, what is the amount of the initial cash flow at Year 0? Cash outflow should be indicated by a minus sign. Round your answer to the nearest dollar. b. What are the incremental net cash flows that will occur at the end of Years 1 through 5? Round your answers to the nearest dollar. Year 1 Year 2 Year 3 Year 4 Year 5 c. What is the NPV of this project? Do not round intermediate calculations. Round your answer to the nearest cent. Should Darlington replace the old machine? -Select-

Answer 1

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- 2x Σ AutoSum : A Fill 2 Clear Sort & Filter Editing Find & Select GF GG GH GI projects (Autosaved) (Autosaved) (Autosaved) - Microsoft Excel (Product Activation Failed) File Home Insert Page Layout Formulas Data Review View Add-Ins % Cut Calibri 11 A A = = = V Wrap Text General Ea Copy Paste B I U B- SF A Merge Merge & Center - Center Format Painter $ -% % 4:0 .00 . Conditional Format Cell Insert Delete Format Formatting as Table Styles Clipboard Font Alignment CD Number Styles Cells FX1469 fic 2 FV FW EX F Y FZ GA GB GCGDGE 1469 1470 1471 DARLINGTON 1472 1473 note depreciation per year on old machine 9000 1474 book value = 90000 - (9000 X 5) 45000 B 1475 sale price = 60000 A 1476 gain on sale = 15000 A-B 1477 tax on gain = 40% 6000 1478 1479 cost of new machine 180000 1480 less sale value of old machine 60000 1481 add tax on sale of old machine 6000 1482 add working capital 1483 126000 1484 1485 A intial cash flow at year 0 -126000 1486 1487 note year depreciation COST = 180000 old machine change in 1488 rates NEW depreciation ($) depreciation depreciation 1489 A-B HEM M I-np-ir_REPLACEMENT S HPR GMAM EAC MACRS NPV RELEVANT BETA LEVERED REPLACEMENT BOND OPTION TO WAIT STEIN indiffEPS EBIT Red ferences 2. B GOLFI LEASE STRAIGHT LINE BOJ 120% 19 . * 0 + 24-11-2019 ENG

note X 2 E. = projects (Autosaved) (Autosaved) (Autosaved) - Microsoft Excel (Product Activation Failed) File Home Insert Page Layout Formulas Data Review View Add-Ins - 2x * Cut Σ AutoSum : A Calibri 11 A A = = = V Wrap Text General E Copy Fill 2 Paste B I U B- SF A Merge Merge & Center - Center $ -% % Format Painter 4:0 .00 . Conditional Format Cell Insert Delete Format Sort & Find & Formatting as Table Styles 2 Clear Filter Select Clipboard Font Alignment Number Styles Cells Editing FW1505 O FV FW FX FY F Z GA GB GC GDGE GF GG GH GI 1486 1487 year depreciation COST = 180000 old machine change in 1488 rates NEW depreciation ($) depreciation depreciation 1489 A-B 1490 33.00% 59400 9000 50400 1491 45.00% 81000 9000 72000 1492 15.00% 27000 9000 18000 1493 7.00% 12600 9000 3600 1494 9000 -9000 1495 1496 1497 TOTAL INCREASE IN EARNINGS = 55000 1498 incremental net cash flows 1499 year EARNINGS(1-t) + change in depreciation*(t) 1500 1 55000*(1-0.4) + 50400*(0.4) 53160 1501 2 55000*(1-0.4) + 72000*(0.4) 61800 1502 3 55000*(1-0.4) + 18000*(0.4) 40200 1503 4 55000*(1-0.4) + 3600*(0.4) 34440 1504 5 55000*(1-0.4) - 9000*(0.4) - AFTER TAX SALVAGE (OLD) 20400 AFTER TAX SALVAGE VALUE OF OLD MACHINE = 15000*(1-0.40) 1505 1506 HOM MI-np-ir_ REPLACEMENTS HPR GMAM EAC MACRS NPV RELEVANT BETA LEVERED REPLACEMENT BOND OPTION TO WAITSTEIN indiffEPS EBIT LEASE STRAIGHT LINE GOLFO Rea ferences BOJ 120% 1 + 2. B 19 . * ENG 24-11-2019

projects (Autosaved) (Autosaved) (Autosaved) - Microsoft Excel (Product Activation Failed) Data Review View Add-Ins File Home Insert Page Layout Formulas - 2x % Cut Σ AutoSum : A Fill 2 Sort & m Find & 2 Clear Filter Editing Select GF GG GH GIA Calibri 11 A A = = = V Wrap Text General E Copy Paste B I U B- SF A Merge Merge & Center - Center $ -% Format Painter % 4:0 .00 . Conditional Format Cell Insert Delete Format Formatting as Table Styles Clipboard Font Alignment CD Number Styles Cells GC1515 FV FWFX FY FZ GA GB GCGDGE 1506 1507 1508 calculation of NPV 1509 year cash flow pv factor @ 9% pv of cfat 1510 0 -126000.00 -126000 1511 1 53160.00 0.9174 48770.64 1512 61800.00 0.8417 52015.82 1513 40200.00 0.7722 31041.78 1514 34440.00 0.7084 24398.16 1515 20400.00 0.6499 13258.60 1516 1517 1518 1519 NPV 43485.01 1520 1521 AS NPV IS POSITIVE, REPLACEMENT SHOULD BE DONE 1522 1523 1524 1525 1526 HOM MI-np-ir_ REPLACEMENTS HPR GMAM EAC MACRS NPV RELEVANT BETA LEVERED REPLACEMENT BOND OPTION TO WAITSTEIN indiffEPS EBIT Rea ferences u wn LEASE STRAIGHT LINE BOJ 120% GOLFO - O 9 . * ENG 24-11-2019