$3.$ Equipment Replacement Analysis

Schmidt A$.$G$.$ is considering the replacement of $3-$hand loaded block milling machines with an automatic milling machine. The $3-$hand loaded machines are only $3$ years old and were purchased at a total cost of euros $300,000$ depreciated straight line at a rate of euros $20,000$ per year. The useful life of the machines at the time of the purchase was estimated to be $15$ years with a salvage value estimated to be zero. Schmidt A$.$G$.$ can continue to use the $3-$hand loaded machines for their remaining $12$ years.

Alternatively, Schmidt A$.$G$.$ can replace the $3-$hand loaded machines with an automatic machine with a useful life of $12$ years priced at euros $480,000$ and depreciated straight line at a rate of euros $40,000$ per year. The salvage value after $12$ years is estimated to be zero.

The automatic machine would result in pre$-$tax labor savings, including benefits of euros $135,000$ per year. Other out$-$of$-$pocket cash savings were estimated at euros $25,000$ per year before taxes. Based o the charge made for each square meter of floor space, the machine department would save euros $3,000$ per year in the annual charge for space. An alternative use of the space is anticipated and euros $20,000$ per year could be accrued.

If Schmidt A$.$G$.$ acquires the automatic machine, it will sell the $3-$hand loaded machine immediately for euros $100,000.$ Assume an expected annual rate of inflation of $3\%.$ Schmidt A$.$G tax rate is $40\%.$ Would you recommend the replacement of the $3-$hand loaded machine.

$3$b$.$ Depreciation Methods

Wendy$$s boss wants to use straight$-$line depreciation for the new expansion project because she said it will give her net income in earlier years and give her a larger bonus. The project is expected to last for $4$ years and requires $$1,700,000$ of equipment. The company could use either straight line or the $3-$year MACRS accelerated method with the applicable rates of $33\mathrm{.}33\%,44\mathrm{.}45\%$; $14\mathrm{.}81\%$ and $7\mathrm{.}41\%.$ The project$$s cost of capital is $10\%$ and its tax rate is $40\%.$

What depreciation method would produce the higher value $($i$.$e$.,$ NPV$)?$ Why might Wendy$$s boss prefer to use straight$-$line depreciation?