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# Present Value calculation.

The Moon Company is contemplating the purchase of a new machine to replace an old machine. The following data are available concerning this investment possibility:

New machine:
Purchase price now \$50,000
Annual cash operating costs \$20,000
Useful life 7 years
Salvage value at the end of seven years . \$ 3,000

Old machine:
Original purchase price three years ago \$40,000
Book value now \$20,000
Annual cash operating costs \$30,000
Salvage value at the end of seven years \$ 2,000
Overhaul needed four years from now \$ 7,000
Salvage value of the machine now \$20,000

The machine is in the MACRS 5-year property class and would be depreciated using the MACRS tables. The old machine is also in the 5-year property class and is being depreciated by the optional straight-line method. However, this old machine could last seven more years if overhauled in four years. The company requires a 12% after-tax return on all equipment purchases, and the tax rate is 30%. The following questions are based on the total-cost approach to the net present value method:

From the point of view of keeping the old machine, the present value of the overhaul needed at the end of Year 4 is closest to:
A) \$(4,900). C) \$(7,000).
B) \$(5,675). D) \$(3,116).

#### Solution Preview

The Moon Company is contemplating the purchase of a new machine to replace an old machine. The following data are available concerning this investment possibility:
New machine:
Purchase price now \$50,000
Annual cash operating costs \$20,000
Useful life 7 years
Salvage value at the end of seven years . \$ 3,000

Old machine:
Original purchase price three years ago \$40,000
Book value now \$20,000
Annual cash operating costs \$30,000
Salvage value at the end of seven years \$ ...

#### Solution Summary

Calculates the present value of the overhaul needed at the end of Year 4.

\$2.19