Question

Replace Equipment

A machine with a book value of $248,800 has an estimated six-year life. A proposal is offered to sell the old machine for $217,000 and replace it with a new machine at a cost of $280,700. The new machine has a six-year life with no residual value. The new machine would reduce annual direct labor costs from $50,600 to $40,500.

Prepare a differential analysis dated October 3 on whether to continue with the old machine (Alternative 1) or replace the old machine (Alternative 2). If an amount is zero, enter "0". For those boxes in which you must enter subtracted or negative numbers use a minus sign.

Differential Analysis
Continue with Old Machine (Alt. 1) or Replace Old Machine (Alt. 2)
October 3
	Continue with Old Machine (Alternative 1)	Replace Old Machine (Alternative 2)	Differential Effect on Income (Alternative 2)
Revenues:
Proceeds from sale of old machine	$	$	$
Costs:
Purchase price
Direct labor (6 years)
Income (Loss)	$	$	$

Should the company continue with the old machine (Alternative 1) or replace the old machine (Alternative 2)?

Answer 1

Differential Analysis
	Continue with old machine (Alternative 1)	Replace old machine (Alternative 2)	Differential effect on Income (Alternative 2)
Revenues:
Proceeds from sale of old machine	0	$                  2,17,000	$                  2,17,000
Costs:
Purchase Price	0	$                -2,80,700	$                -2,80,700
Direct labor ($50600*6) ; ($40500*6)	$                -3,03,600	$                -2,43,000	$                     60,600
Income (loss)	$                -3,03,600	$                -3,06,700	$                      -3,100
Continue with old machine (Alternative 1)
As the Differential effect gives loss of $3100 it is not recommended to replace the machine