1. CAPITAL BUDGETING THE UFRO COMPANY. The UFRO Company is considering the replacement of an existing spectrometer with a new spectrometer; faster and with expanded capacity. If the new spectrometer is purchased, the existing (old) computer will be sold for $30,000 immediately. The existing spectrometer was purchased three (3) years ago for $300,000. It is being depreciated under the 3-year MACRS schedule. The salvage value at the end of its six-year life will be $80,000.

The new spectrometer will be purchased for $650,000. If the new spectrometer is purchased, accounts receivable increase immediately by $25,000; accruals will decrease immediately by $40,000; and accounts payable will decrease immediately by $30,000. The UFRO Company has a 30% corporate tax rate. Shipping costs for the new spectrometer, paid by the manufacturer, will be $20,000; and installation costs for the new spectrometer, paid by UFRO, will be $35,000.

If the new spectrometer is purchased, sales in year 1 will be $560,000, sales in year 2 will be $580,000, and sales in year 3 will be $520,000. Without the new spectrometer, sales in each year will be $300,000. Operating expenses will continue to be 50% of sales. With the new spectrometer accounts receivable will increase by $5,000 at T=1 and $10,000 at T=2. The new computer will be depreciated using the 3-year MACRS schedule [yr.1: 33%; yr. 2: 45%; yr. 3: 15%; and yr. 4: 7%]. The new spectrometer will be sold, however, after three (3) years for $95,000. The UFRO Company has a cost of capital of 12%.

• Should the existing spectrometer be replaced? Why or why not?
• What might give you pause in making your decision with the given facts?