12-10 REPLACEMENT ANALYSIS The Dauten Toy Corporation currently uses an injection molding machine that was purchased prior to the new tax legislation. This machine is being depreciated on a straight-line basis, and it has 6 years of remaining life. Its current book value is $2,100, and it can be sold for $2,500 at this time. Thus, the annual depreciation expense is $2,100/6 = $350 per year. If the old machine is not replaced, it can be sold for $500 at the end of its useful life.

Dauten is offered a replacement machine which has a cost of $8,000, an estimated useful life of 6 years, and an estimated salvage value of $800. The replacement machine is eligible for 100% bonus depreciation at the time of purchase. The replacement machine would permit an output expansion, so sales would rise by $1,000 per year; even so, the new machines much greater efficiency would cause operating expenses to decline by $1,500 per year. The new machine would require that inventories be increased by $2,000, but accounts payable would simultaneously increase by $500. Dautens marginal federal-plus-state tax rate is 25%, and its WACC is 11%. Should it replace the old machine?