Question
K&G Company currently sells 1.10 million units per year of a product to one customer at a price of $3.80 per unit. The customer requires
K&G Company currently sells 1.10 million units per year of a product to one customer at a price of $3.80 per unit. The customer requires that the product be exclusive and expects no increase in sales during the five-year contract. The company manufactures the product with a machine that it purchased seven years ago at a cost of $733,000. Currently, the machine has a book value of $437,000 but the market value is only $230,000. The machine is expected to last another five years, after which it will have no salvage value. Last year, the production variable costs per unit were as follows:
Direct materials | $1.60 | |
Direct labour | 0.80 | |
Variable overhead | 0.40 | |
Total variable cost per unit | $2.80 |
The company president is considering replacing the old machine with a new one that would cost $814,000. The new machine is expected to last five years. At the end of that period, the salvage value will be $343,000. The president expects to save 5% of the companys total variable costs with the new machine. Assume that the companys desired rate of return is 11%. Calculate the net present value of the investment. (If the net present value is negative, use either a negative sign preceding the number e.g. -45 or parentheses e.g. (45). For calculation purposes, use 5 decimal places as displayed in the factor table provided, e.g. 1.25124 and final answer to 0 decimal places, e.g. 5,275.) Click here to view PV table.
Net present value | $ |
Using the net present value method, should the company replace the old machine with the new one?
The president ________ replace the equipment based on a ___________ net present value. |
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