1. Two computer systems are being compared. System A has a life expectancy of 5 years and will cost $14,000 plus $2,000 annually for maintenance. System B has life expectancy of 3 years and will cost $9,000 plus $700 annually for maintenance. System A will generate about $10,000 income and system B will generate about $9,000. Each system will be depreciated using straight line depreciation over their respective lives and company is in a 30% tax bracket. Which system should you choose?
2. A new machine will cost your firm $50,000. It will be depreciated over 5 years with a salvage value at the end of 5 years of $2,000. It is expected that the machine will produce $18,000 in income the first year and an additional 5% growth in income in each subsequent year for up to 6 years. The operating costs the first year are $3,000. These will rise at a rate of $2,000 per year up to a maximum of $14,000. Your company is in a 35% tax bracket. You want to realize a return on your investment of at least 15%. At what point should you consider selling the equipment?
This solution provides answers to questions on selecting between two alternative investments and finding the time at which a machine needs to be replaced.