Asset replacement and capital budgeting
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The plant has accumulated savings of $60,000 to acquire a new machine for quality assurance of its products. The new quality control machine cost $80,000. The extra $20,000 needed to acquire the new machine will be finance through a loan at 6% annual interest with the principal ($20,000) due at the end of the third year. The income tax rate is 0.35. The new equipment will save $35,000 each year and its economic life is 3 years. The salvage value is $30,000. Does the acquisition of this new machine satisfy the 6% minimum rate? Compute the after tax rate of return of this alternative for year two. Solve this problem using the straight line and the MACRS depreciation methods. Which depreciation method is best for year two?
Four years ago a company purchased a new copy machine. Due to deterioration, soon a new copy machine will be needed. The annual maintenance cost for the existing machine is $1,600 and increasing 100 each year. An identical copy machine can be purchased now to replace the presently owned assets. The presently owned copy machine losses each year $10,000 in resale value, compare the assets with at 10% per year and compute when the presently owed should be replace.
Same model as presently owned
Present value (when new) $75,000
Present value of new copy machine $85,000
Annual cost (old copy machine) 1,100
Annual cost (new copy machine) 1,600 and increasing
Salvage value (both machine) 15,000
Life in years (both machine) 6
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Solution Summary
This solution helps to answer asset replacement decision and some capital budgeting decisions questions.
Education
- MBA, Indian Institute of Finance
- Bsc, Madras University
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