Question

“I’m not sure we should lay out $325,000 for that automated welding machine,” said Jim Alder, president of the Superior Equipment Company. “That’s a lot of money, and it would cost us $89,000 for software and installation, and another $4,500 every month just to maintain the thing. In addition, the manufacturer admits that it would cost $52,000 more at the end of three years to replace worn-out parts.”

     

“I admit it’s a lot of money,” said Franci Rogers, the controller. “But you know the turnover problem we’ve had with the welding crew. This machine would replace six welders at a cost savings of $119,000 per year. And we would save another $8,000 per year in reduced material waste. When you figure that the automated welder would last for six years, I’m sure the return would be greater than our 16% required rate of return.”

“I’m still not convinced,” countered Mr. Alder. “We can only get $19,500 scrap value out of our old welding equipment if we sell it now, and in six years the new machine will only be worth $35,000 for parts. But have your people work up the figures and we’ll talk about them at the executive committee meeting tomorrow.”

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

  

Required:

1.

Compute the annual net cost savings promised by the automated welding machine. Required: 1. Compute the annual net cost savings promised by the automated welding machine. 119,000 Reduction in labor costs Reduction in material waste 8,000 127,000 Total Less increased maintenance (54,000) costs 73,000 Annual net cost savings 2a. Using the data from (1) above and other data from the problem, compute the automated welding machine's net present value. (Any cash outflows should be indicated by a minus sign. Use the appropriate table to determine the discount factor(s).) Now Cost of machine Software and installation Salvage value of old equipment Annual net cost savings Replacement of parts Salvage value of new machine S 0 S 0 S 0 S 0 0 S 0 0 Total cash flows Discount factor (16%) 0 S 0 0 0 0 0 0 Present value 0 Net present value

Answer 1

2a Details Now 2 4 Cost of machine Software and installation Salvage value of old eguipment Annual net cost savin Replacement of parts Salvage value of new machine Total cash flows: Discount factor (16% Present value Net present value $325,000 ($89,000 $19,500 $73,000 $73,000 $73,000$73,000 $73,000 $73,000 S52,000 35,000 ($394,500) $73,000 $73,000 521,000S73,0005 $73,000 $108,000 0.743 0.641 0.476 34,748 0.41 S394,500 $144,550 $62,926 54,239 13,461 29б 280 3) Intangible benefits: Net present value (A Present value factor at 16% 6th year(B) Intangible benefits: (A/B $144,550 3.685 $39,227