Question
Relevant cash flows long dash No terminal valueCentral Laundry and Cleaners is considering replacing an existing piece of machinery with a more sophisticated machine. The
Relevant cash flows long dash No terminal valueCentral Laundry and Cleaners is considering replacing an existing piece of machinery with a more sophisticated machine. The old machine was purchased 3 years ago at a cost of $49,000, and this amount was being depreciated under MACRS using a 5-year recovery period. The machine has 5 years of usable life remaining. The new machine that is being considered costs $75,700 and requires $3,700 in installation costs. The new machine would be depreciated under MACRS using a 5-year recovery period. The firm can currently sell the old machine for $55,400 without incurring any removal or cleanup costs. The firm is subject to a tax rate of 40%. The revenues and expenses (excluding depreciation and interest) associated with the new and the old machines for the next 5 years are given in the table. (Table contains the applicable MACRS depreciation percentages.) Note: The new machine will have no terminal value at the end of 5 years.
Percentage by Recovery Year* | ||||
Recovery Year | 3 years | 5 years | 7 years | 10 years |
1 2 3 4 5 6 7 8 9 10 11 | 33% 45% 15% 7% | 20% 32% 19% 12% 12% 5% | 14% 25% 18% 12% 9% 9% 9% 4% | 10% 18% 14% 12% 9% 8% 7% 6% 6% 6% 4% |
Totals | 100% | 100% | 100% | 100%
|
New machine Old machine Year Revenue Expenses Revenue Expenses
(excluding depreciation and interest) (excluding depreciation and interest)
1 $750,300 $720,900 $674,400 $659,400 2 750,300 720,900 676,400 659,400 3 750,300 720,900 680,400 659,400 4 750,300 720,900 678,400 659,400 5 750,300 720,900 674,400 659,400
a. Calculate the initial investment associated with replacement of the old machine by the new one.
b. Determine the incremental operating cash inflows associated with the proposed replacement. (Note: Be sure to consider the depreciation in year 6.)
c. Depict on a time line the relevant cash flows found in parts (a) and (b) associated with the proposed replacement decision.
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