PROBLEM 10.6 ABC Company purchased a machine three years ago at a cost of 10,000. The machine had a life of 8 years at the time of its purchase. It is being depreciated on straight-line basis for the purpose of taxes. The company is thinking of replacing it with a new machine costing 20,000 with an expected 5-year life. The profit before depreciation is estimated to increase by 2,440 a year. Assume that the old and new machines will be depreciated on straight-line basis for tax purposes. The salvage value of the new machine is anticipated as 2,500 after 5 years. The market value of the old machine today is 11,500. It is estimated to have zero salvage value after 5 years. The corporate income tax rate may be assumed as 30 per cent. Further, the long-term capital gain tax rate 20 per cent. The amount in excess of the original cost is treated as the long-term capital provided the asset is held, at least, for one year. The short-term capital gains are treated as ordinary income and taxed at 30 per cent. The company's after-tax cost of capital is 12 per cent. Should the new machine be bought?