Equipment replacement, income taxes. (CMA, adapted) VacuTech manufactures testing instruments for microcircuits. These instruments sell for $4,200 each. VacuTech incurs cash operating costs of $2,940 to manufacture these instruments. On January 1, 2005, VacuTech bought a vacuum pump for $480,000. VacuTech is considering the purchase of a new, more efficient pump on January 1, 2009 (4 years later). The new pump costs $744,000. The pump qualifies for a capital cost allowance rate of 25%, declining balance. The new pump is expected to have a terminal disposal price of $96,000 at the end of four years. At current rates of production, the new pump’s greater efficiency will result in annual cash savings of

$150,000.

The old pump will be fully amortized for accounting purposes by December 31, 2008, but it can still be used for another four years. It has a current disposal price of $60,000. Ifit is used for another four years, the pump’s terminal disposal price will be zero.

VacuTech is able to sell all the testing instruments it produces. Because ofthe increased speed of the new pump, output is expected to increase by 30 units in 2009, 50 units in 2010 and 2011, and 70 units in 2012. Over and above the annual cash savings at current production levels, VacuTech’s cash manufacturing costs will decrease by $180 per unit on all additional units produced.

VacuTech is subject to a 40% tax rate. VacuTech’s after-tax required rate ofreturn is 16%.

Required 1. Determine whether VacuTech should purchase the new pump by calculating the net present value at January 1, 2009, of the estimated after-tax cash flows that would result from the acquisition.

2. Describe the nonfinancial and qualitative factors that VacuTech should consider before making the pump replacement decision.