A toy manufacturer that specializes in making fad items purchased a $70,000 molding machine for producing a special toy two years ago. The company is considering purchasing a newer, more efficient machine. If purchased, the new machine will be acquired today. Production and sales of 40,000 units per year (sales of $240,000) will be the same regardless of whether the company uses the old or new machine.

The company has two options: (1) continue to operate the old machine or (2) sell the old machine and purchase the new machine. The following information has been assembled to help management decide which option is more desirable.

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Question: A toy manufacturer that specializes in making fad ...

A toy manufacturer that specializes in making fad items purchased a $70,000 molding machine for producing a special toy two years ago. The company is considering purchasing a newer, more efficient machine. If purchased, the new machine will be acquired today. Production and sales of 40,000 units per year (sales of $240,000) will be the same regardless of whether the company uses the old or new machine.

The company has two options: (1) continue to operate the old machine or (2) sell the old machine and purchase the new machine. The following information has been assembled to help management decide which option is more desirable.

Question:

(1) What would be the present value of the net cash inflows from operating cost savings if the new machine is purchased?

(2) What would be the difference in the present value of depreciation tax savings between keeping the old and buying the new machine?

(3) What would be the present value of the net cash inflows from selling the old machine today?

(4) What would be the present value of the net cash inflows from selling the new machine 5 years later?

Old machine $70,000 $7,000 7 years New machine Initial purchase cost of machine $100,000 Estimated salvage value at the end of useful life for depreciation purposes Useful life from date of acquisition Expected annual cash operating costs $10,000 5 years Variable cost per unit Total fixed costs $3.80 $36,000 $2.50 $24,000 Depreciation method used for tax purposes Straight-line Sum-of-years'-digits Estimated cash disposal value of Machine Today Five years later $55,000 $2,600 $100,000 $7,200 The company is subject to a 40% income tax rate and requires an after-tax return of at least 8% on an investment