The company decides to buy the new equipment to replace the existing equipment that was acquired five years ago at a cost of $5,000,000.
Research fee $80,000 was spent last year for the new equipment. The information of the existing equipment and the proposed new equipment are shown as follows:
The existing equipment is expected to provide eight more years of service if major repairs of $588,000 are performed three years from now. Annual cash operating costs total $3,000,000 and are not expected to change in future periods. The estimated market value of the existing equipment in eight years is $735,000. Your company may sell the existing equipment now for $3,528,000 and buy the new equipment.
The new equipment has a service life of eight years, is expected to reduce operating costs by $882,000 annually, and has an estimated residual value of $2,646,000. Major repairs of $220,500 for the new equipment will be necessary at the end of the fifth year of operation. Moreover, to finance the new equipment, it appears that your company would have to borrow $3,000,000 at 7% interest annually from the OPEN Bank.
If IRR is 15%, would you please tell me how to find out the maximum price that the company would be willing to pay for the new equipment? Ignore taxes.
This solution discusses project evaluation and equipment replacement.