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existing machine was purchased five years ago at a price of $1.8
million; six months ago, Hillsong spent $55,000 to keep it operational.
The existing sewing machine can be sold today for $250,000. The new
sewing machine would require a one-time, $85,000 training cost.
Operating costs would decrease by the following amounts for years 1
to 7:
Year 1
$390,000
2 400,000
3 411,000
4 426,000
5 434,000
6 435,000
7 436,000
The new sewing machine would be depreciated according to the
declining-balance method at a rate of 20%. The salvage value is
expected to be $400,000. This new equipment would require
maintenance costs of $100,000 at the end of the fifth year. The cost of
capital is 9%.
Instructions
Use the net present value method to determine whether Hillsong
should purchase the new machine to replace the existing machine, and
state the reason for your conclusion.
E12-5