Question

AP-21A LO 123 Rio Red Co. is interested in repla costs $96,700 with a useful lif can reduce annual maintenan $20,000 at end of its useful li for $2,000. ted in replacing its old machine. The machine the company is considering purchasing a useful life of ten years. By replacing the old machine with a new one, the company ol maintenance and repair costs by $7,900. In addition, the new machine can be sold for of its useful life. If the company decides to accept this project, they can sell the old machine Required a) Determine the payback period for the new machine. b) Assume the company ac le the company accepts projects if the payback period is less than the assets' useful life. Based on the payback method, should Big Red replace its old machine? C) Now assume Big Red wants ints to use the NPV technique with a required rate of return of 10%. Determine whether accept the project using the NPV method. the company should accept the project

Answer 1

Answer with working notes is given below

For present value factors refer to the annuity table please

$96,700) Initial investment Less: Salvage value of existing machine Net Initial Investment $2,000 $94,700 Years a) Payback period Initial investment Annual cash inflows $94,700 $7,900 11.99 Payback period for the new machine is 11.99 years b) No the existing machine should not be replaced as payback period is more than the life of the asset c) Calculation of Net present value Cash inflow (Outflow) Years Net Initial investment Annual Cash inflows Salvage value at end of the useful life Net present value -$94,700 $7,900 $20,000 1 1-10 10 Present PV factor Value of Cash Inflows 1.0000 -$94,700 6.1446 $48,542 0.3855) $7,711 -$38,447 Since NPV is negative the investment should not be made in the new machine