Question

Hello I am hoping to get some help with the following question, thank you!

Bilboa Freightlines, S.A. of Panama has a small truck that it uses for local deliveries. The truck is in bad repair and must be either overhauled or replaced with a new truck. The company has assembled the following information (Panama uses the U.S. dollar as its currency) Present New Truck Truck Purchase cost new Remaining book value Overhaul needed novw Annual cash operating costs Salvage value now Salvage value eight years from now $41,000 $55,000 26,000 8,000 11,000 8,500 14,000 1,000 4,000 If the company keeps and overhauls its present delivery truck, then the truck will be usable for eight more years. If a new truck is purchased, it will be used for eight years, after which it will be traded in on another truck. The new truck would be diesel-fuelled, resulting in a substantial reduction in annualoperating costs, as shown above. The company computes depreciation on a straight-line basis. All investment projects are evaluated using a 16% discount rate. Click here to view Exhibit 10-1 and Exhibit 10-2, to determine the appropriate discount factor(s) using tables. Required 1-a. Determine the present value of net cash flows using the total-cost approach. (Negative amounts should be indicated with a minus sign. Round discount factor(s) to 3 decimal place.) sen ue Cash Flows Purchase the new truck Keep the old truck 1-b. Should Bilboa Freightlines keep the old truck or purchase the new one? O Purchase the new truck O Keep the old truck 2. Using the incremental-cost approach, determine the net present value in favor of (or against) purchasing the new truck? (Negative amounts should be indicated with a minus sign. Round discount factor(s) to 3 decimal place.) Net present value

Answer 1

Solution 1a:

Total cost approach to Net Present Value - Bilboa Freighlines
Particulars	Now	1	2	3	4	5	6	7	8
Keep the old truck:
Overhaul needed now	-$8,000
Annual operating costs		-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000
Salvage value (Old)									$1,000
Total cash flows	-$8,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$11,000	-$10,000
Discount factor 16%	1.000	0.862	0.743	0.641	0.552	0.476	0.410	0.354	0.305
Present Value	-$8,000	-$9,482	-$8,173	-$7,051	-$6,072	-$5,236	-$4,510	-$3,894	-$3,050
Net Present Value	-$55,468
Purchase the New Truck:
Purchase new truck	-$55,000
Salvage value (old)	$14,000
Annual operating costs		-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500
Salvage value (new)									$4,000
Total cash flows	-$41,000	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$8,500	-$4,500
Discount factor 13%	1.000	0.862	0.743	0.641	0.552	0.476	0.410	0.354	0.305
Present Value	-$41,000	-$7,327	-$6,316	-$5,449	-$4,692	-$4,046	-$3,485	-$3,009	-$1,373
Net Present Value	-$76,696

Solution 1b:

Bilboa freightlines should keep the old truck.

Solution 2:

Computation of NPV - Replacement decision - Bilboa Freightlines (Incremental Approach)
Particulars	Amount	Period	PV Factor	Present Value
Cash Outflows:
Initial investment in New Truck	$55,000	0	1	$55,000
Salvage value of old truck	-$14,000	0	1	-$14,000
Saving in overhaul cost	-$8,000	0	1	-$8,000
Present Value of Cash Outflows (A)				$33,000
Cash Inflows:
Annual savings in cash operating cost	$2,500	1-8	4.343	$10,858
Incremental salvage value	$3,000	8	0.305	$915
Present Value of Cash Inflows (B)				$11,773
Net Present Value (B-A)				-$21,228