Question

18 - Riener Hospital has an x-ray machine with a book value of $60,000 and a remaining useful life of three years. At the end of the three years the equipment will have a zero salvage value. The market value of the equipment is currently $32,000. Riener can purchase a new machine for $145,000 and receive $28,000 in return for trading in its old machine. The new machine will reduce variable manufacturing costs by $27,000 per year over the three-year life of the new machine. The total increase or decrease in net income by replacing the current machine with the new machine (ignoring the time value of money) is:

Multiple Choice

• $22,000 decrease

• $76,000 increase

• $18,000 decrease

• $52,000 increase

• $22,000 increase

Answer 1

Calculate total increase or decrease in net income by replacing the current machine with the new machine as follows: Particulars Purchase price of new machinery Sale of old machinery Saving in variable cost ($ 27,000 3 years) Saving in depreciation Saving in loss of value ($ 60,000 - $ 32,000) Increase in net income by replacing the machinery $ $ $ Amount (145,000) 28,000 81,000 $ 60.000 $ $ 28,000 52,000 Explanation: 1. Saving in depreciation of S 60,000 is an implicit income which arises when we sell the machinery. Had it been held for 3 years, it would have been depreciated completely with S O salvage value. 2. Saving in loss of value of $ 28,000 is also an implicit income which arises when we sell the machinery. Had it been held for 3 years, it would have come to a market value of S 32,000 from a book value of $ 60.000.

Answer 2

Total increase or decrease in net income: Particulars Amount S Cost to buy the new machine (145,000) Cash received to trade in old machine 28,000 Reduction in variable manufacturing cost 81,000 (27000 3 years) Total decrease in Net Income by (36,000) Net Income will decrease by S 36,000/