Identifying Relevant Cash Flows; Asset-Replacement Decision Assume that it is Januar...

Identifying Relevant Cash Flows; Asset-Replacement Decision Assume that it is January 1, 2013, and that the Mendoza Company is considering the replacement of a machine that has been used for the past three years in a special project for the company. This project is expected to continue for an additional five years (i.e., until the end of 2017). Mendoza will either keep the existing machine for another five years (eight years total), or replace the existing machine now with a new model that has a five-year estimated life. Pertinent facts regarding this decision are as follows:

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 Determine relevant cash flows (after-tax) at each of the following three points: (1) time of purchase of the new machine (i.e., time period 0, January 1, 2013), (2) project operation (i.e., each of five years), and (3) project disposal (termination) (i.e., December 31, 2017). Separately identify any irrelevant cost and revenue data associated with this decision. Finally, determine the undiscounted net cash flow and determine whether the old machine should be replaced.