Quality Drycleaners would like to purchase a new machine for cleaning large quilts and comforters. The current cleaning operation on quilts and comforters is done by hand. The new machine would cost $12,500. The estimated service life is 12 years, at which time it is estimated that the machine could be sold for $500.
The company estimates that it would cost $700 per year to operate the machine. The current cost of manual cleaning is $3,000 per year. In addition to reducing costs, the new machine would increase the drycleaner's ability to clean quilts and comforters by 600 per year. The company realizes a net contribution margin after tax effects of $1.50 per quilt or comforter. A 10% rate of return is required on all investments. Community expects its tax rate to be 30%.
A. What are the annual net cash inflows that would be realized from the new machine?
B. Compute the net present value of the investment (round to the nearest dollar). Use straight-line depreciation based on the machine's estimated service life. Would you recommend that the machine be purchased?
Explain your answer.
This response calculates the net cash flows and NPV after a company has purchased a new machine.