Hayden Inc. has a number of copiers that were bought four years ago for $20,000. Currently maintenance costs $2,000 a year, but the maintenance agreement expires at the end of two years and thereafter the annual maintenance charge will rise to $8,000. The machines have a current resale value of $8,000, but at the end of year 2 their value will have fallen to $3,500. By the end of year 6 the machines will be valueless and would be scrapped.
Hayden is considering replacing the copiers with new machines that would do essentially the same job. These machines cost $25,000, and the company can take out an eight year maintenance contract for $1,000 a year. The machines will have no value by the end of the eight years and will be scrapped.
Both machines are depreciated by using seven-year MACRS, and the tax rate is 35%. Assume for simplicity that the inflation rate is zero. The real cost of capital is 7%. When should Hayden replace its copiers?
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