3. Advanced Electrical Insulator Company is considering replacing a broken inspection machine, which has been used to test the mechanical strength of electrical insulators with a newer and more efficient one. If repaired, the old machine can be used for another five years although the firm does not expect to realize any salvage value from scrapping it in five years. Alternatively, the firm can sell the machine to another firm in the industry now for $7,000.

If the machine is kept, it will require an immediate $2,000 overhaul (payable at the beginning of year 1 to restore it to operable condition. The overhaul will neither extend the service life originally estimated nor increase the value of the inspection machine. The operating costs are estimated at $1,000 during the first year and are expected to increase by $500 per year thereafter. Future market values are expected to decline by $1,500 per year.

The new machine costs are $12,000 and will have operating costs of $1,000 in the first year, increasing by $700 per year thereafter. The expected salvage value is $8,000 after one year and will decline 10% each following year. The company requires a rate of return of 12%.

(a) What is the remaining economic service life for the old machine? (b) What is the economic service life for the new machine? (c) When is the earliest that old machine should be replaced by the new machine?