Company is considering replacing one of its machines in order to save operating costs. Operating costs with the current machine are $68,000 per year; operating costs with the new machine are expected to be $42,000 per year. The new machine will cost $72,000 and will last for six years, at which time it can be sold for $1,000. The current machine will also last for six more years but will not be worth anything at that time. It cost $33,000 three years ago but is currently worth only $5,000. Assuming a discount rate of 6%, what is the incremental net present value of replacing the current machine with the new machine?
Initial investment for replacement = Cost of new machine – Current price of old machine
= $ 72,000 - $ 5,000 = $ 67,000
Annual savings in operating cost = Operating cost for new machine – operating cost for old machine
= $ 68,000 - $ 42,000 = $ 26,000
NPV of incremental cash flow = PV of future cash flows – Initial investment
= $ 26,000 x PVIFA (6, 6 %) + $ 1,000 x PVIF (6, 6 %) - $ 67,000
= $ 26,000 x [1- (1+0.06)-6/0.06] + $ 1,000 x (1+0.06)-6 - $ 67,000
= $ 26,000 x [(1- 0.704960540439676)/0.06] + $ 1,000 x 0.704960540439676 - $ 67,000
= $ 26,000 x [(0.295039459560324)/0.06] + $ 704.960540439676 - $ 67,000
= ($ 26,000 x 4.9173243260054) + $ 704.960540439676 - $ 67,000
= $ 127,850.43247614 + $ 704.960540439676 - $ 67,000
= $ 128,555.393016579676 - $ 67,000
= $ 61,555.393016579676 or $ 61,555.39
The incremental net present value of replacing the current machine with the new machine is $ 61,555.39
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