EnterTech has noticed a significant decrease in the profitability of its line of portable CD players. The production manager believes that the source of the trouble is old, inefficient equipment used to manufacture the product. The issue raised, therefore, is whether EnterTech should (1) buy new equipment at a cost of $120,000 or (2) continue using its present equipment. It is unlikely that demand for these portable CD players will extend beyond a five-year time horizon. EnterTech estimates that both the new equipment and the present equipment will have a remaining useful life of five years and no salvage value. The new equipment is expected to produce annual cash savings in manufacturing costs of $34,000, before taking into consideration depreciation and taxes. However, management does not believe that the use of new equipment will have any effect on sales volume. Thus, its decision rests entirely on the magnitude of the potential cost savings. The old equipment has a book value of $100,000. However, it can be sold for only $20,000 if it is replaced. EnterTech has an average tax rate of 40 percent and uses straight-line depreciation for tax purposes. The company requires a minimum return of 12 percent on all investments in plant assets. a. Compute the net present value of the new machine using the tables in Exhibits 263 and 264. b. What nonfinancial factors should EnterTech consider? c. If the manager of EnterTech is uncertain about the accuracy of the cost savings estimate, what actions could be taken to double-check the estimate?

Ex. 26.10
			Insert your
			answer below:
a.	Net present value:
	Calculate depreciation expense under each alternative:
	New machine		$ 24,000
	Old machine		?
	Increase in depreciation of new machine		?
	Calculate the incremental increase in annual income taxes resulting
	from the purchase of the new machine:
	Cost savings of new machine		?
	Less: Increase in depreciation (see above)		?
	Increase in pretax income		?
	Income tax rate		40%
	Increase in income taxes		?
	Calculate the incremental increase in annual cash flow resulting from
	the purchase of the new machine:
	Cost savings of new machine		?
	Less: Increase in income taxes (see above)		?
	Increase in annual cash flow		?
	Calculate the tax savings resulting from the loss on the sale of the
	old machine:
	Book value of old machine		?
	Proceeds from sale		?
	Loss on sale of disposal		?
	Income tax rate		40%
	Tax savings resulting from loss on disposal		?
	The net present value of the new machine can now be computed as follows:
	Present value of incremental annual cash flows discounted at 12%
	for five years is ? (from Exhibit 26.4)		?
	Present value of tax savings from loss on disposal of the old machine
	discounted at 12% for 1 year is ? (from Exhibit 26.3)		?
	Present value of proceeds from sale of old equipment		?
	Total present value		?
	Less: Cost of new machine		?
	Net present value		?