Assume that it is January 1, 2019, and that the Mendoza Company is considering the replacement of a machine that has been used for the past 3 years in a special project for the company. This project is expected to continue for an additional 5 years (i.e., until the end of 2023). Mendoza will either keep the existing machine for another 5 years (8 years total) or replace the existing machine now with a new model that has a 5-year estimated life. Pertinent facts regarding this decision are as follows:
Keep Existing Machine | Purchase New Machine | ||||||
Purchase price of machine (including transportation, setup charges, etc.) | $ | 150,000 | $ | 190,000 | |||
Useful life (determined at time of acquisition) | 8 | years | 5 | years | |||
Estimated salvage value, end of 2023* | $ | 20,000 | $ | 25,000 | |||
Expected cash operating costs, per year: | |||||||
Variable (per unit produced/sold) | $ | 0.25 | $ | 0.19 | |||
Fixed costs (total) | $ | 25,000 | $ | 24,000 | |||
Estimated salvage (terminal) values: | |||||||
January 1, 2019 | $ | 68,000 | |||||
December 31, 2023 | $ | 12,000 | $ | 22,000 | |||
Net working capital committed at time of acquisition of existing machine (all fully recovered at end of project, December 31, 2023) | $ | 30,000 | |||||
Incremental net working capital required if new machine is purchased on January 1, 2019 (all fully recovered at end of project, December 31, 2023) | $ | 10,000 | |||||
Expected annual volume of output/sales (in units), over the period 2019–2023 | 500,000 | 500,000 | |||||
*Note: These amounts are used for depreciation calculations.
Assume further that Mendoza is subject to a 40% income tax, both
for ordinary income and gains/losses associated with disposal of
machinery, and that all cash flows occur at the end of the year,
except for the initial investment. Assume that straight-line
depreciation is used for tax purposes and that any tax associated
with the disposal of machinery occurs at the same time of the
related transaction.
Required:
1. Determine relevant cash flows (after-tax) at time of purchase of
the new machine (i.e., time 0: January 1, 2019).
2. Determine the relevant (after-tax) cash inflow each year of
project operation (i.e., at the end of each of years 1 through
5).
3. Determine the relevant (after-tax) cash inflow at the end of the
project's life (i.e., at the project's disposal time, December 31,
2023).
5. Determine the undiscounted net cash flow (after tax) for the new
machine and determine whether on this basis the old machine should
be replaced.
Assume that it is January 1, 2019, and that the Mendoza Company is considering the replacement...
Check my work This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $5,500,000 and cash expenses of $3,750,000, one-third of which are labor costs. The current level of investment in this existing division is $12,250,000. (Sales and costs of this division are not affected by the investment...
This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $5,250,000 and cash expenses of $3,765,000, one-third of which are labor costs. The current level of investment in this existing division is $12,500,000. (Sales and costs of this division are not affected by the investment decision regarding the...
Check my work This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $5,400,000 and cash expenses of $3,780,000, one-third of which are labor costs. The current level of investment in this existing division is $12,450,000. (Sales and costs of this division are not affected by the investment...
Check my work This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $5,400,000 and cash expenses of $3,780,000, one-third of which are labor costs. The current level of investment in this existing division is $12,450,000. (Sales and costs of this division are not affected by the investment...
This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $5,700,000 and cash expenses of $3,810,000, one-third of which are labor costs. The current level of investment in this existing division is $12,350,000. (Sales and costs of this division are not affected by the investment decision regarding the...
This exercise parallels the machine-purchase decision for the Mendoza Company that is discussed in the body of the chapter. Assume that Mendoza is exploring whether to enter a complementary line of business. The existing business line generates annual cash revenues of approximately $4,950,000 and cash expenses of $3,735,000, one-third of which are labor costs. The current level of investment in this existing division is $12,600,000. (Sales and costs of this division are not affected by the investment decision regarding the...
Brown Company paid cash to purchase the assets of Coffee Company on January 1, 2019. Information is as follows: Total cash paid $3.500.000 Assets acquired: Land S600.000 Building 5500.000 Machinery Ss00.000 Patents 3600,000 The building is depreciated using the double-declining balance method. Other information is: Salvage value 550.000 Estimated useful life in years The machinery is depreciated using the units-of-production method Other information is: Salvage value, percentage of cost 1096 Estimated total production output in 200.000 Actual production in units...
Brown Company paid cash to purchase the assets of Coffee Company on January 1, 2019. Information is as follows: Total cash paid $2,990,000 Assets acquired: Land $600,000 Building $600,000 Machinery $500,000 Patents $600,000 The building is depreciated using the double-declining balance method. Other information is: Salvage value $60,000 Estimated useful life in years 30 The machinery is depreciated using the units-of-production method. Other information is: Salvage value, percentage of cost 10% Estimated total production output in units 400,000 Actual production...
Brown Company paid cash to purchase the assets of Coffee Company on January 1, 2019. Information is as follows: Total cash paid $3,500,000 Assets acquired: Land S600.000 Building $600,000 Machinery 5900.000 Patents S500,000 The building is depreciated using the double-declining balance method. Other information is: Salvage value 550.000 Estimated useful life in years The machinery is depreciated using the units-of-production method. Other information is: Salvage value. percentage of oost 1096 Estimated total production output in 200.000 Actual production in units...
Brown Company paid cash to purchase the assets of Coffee Company on January 1, 2019. Information is as follows: Total cash paid $2,990,000 Assets acquired: Land $600,000 Building $600,000 Machinery $500,000 Patents $600,000 The building is depreciated using the double-declining balance method. Other information is: Salvage value $60,000 Estimated useful life in years 30 The machinery is depreciated using the units-of-production method. Other information is: Salvage value, percentage of cost 10% Estimated total production output in units 400,000 Actual production...