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Santosh Plastics Inc. purchased a new machine one year ago at a cost of $99,000. Although the machine operates well and has five more years
Santosh Plastics Inc. purchased a new machine one year ago at a cost of $99,000. Although the machine operates well and has five more years of operating life, the president of Santosh Plastics is wondering if the company should replace it with a new electronic machine that has just come on the market. The new machine costs $148,500 and is expected to slash the current annual operating costs of $69,300 by two-thirds. The new machine is expected to last for five years, with zero salvage value at the end of five years. The current machine can be sold for $16,500 if the company decides to buy the new machine. The company uses straight-line depreciation. In trying to decide whether to purchase the new machine, the president has prepared the following analysis: Book value of the old machine Less: Salvage value Net loss from disposal $82,500 16,500 $ 66,000 "Even though the new machine looks good," said the president, "we can't get rid of that old machine if it means taking a huge loss on it. We'll have to use the old machine for at least a few more years." Sales are expected to be $346,500 per year, and selling and administrative expenses are expected to be $207,900 per year, regardless of which machine is used. Required: 1. Prepare a comparative income statement covering the next five years, assuming: a. The new machine is not purchased. b. The new machine is purchased. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations.) 5 Years Summary Keep Old Machine Buy New Machine Difference $ 0 Sales Salvage value-old machine Selling and administrative expenses Operating costs Depreciation of the old machine, or loss write-off Depreciation-new machine 1,732,500 $ 1.732,500 $ 0 (16,500) 1,039,500 1,039,500 346,500 115,500 (82,500) (82,500) 0 148,500 0 (16,500) 0 231,000 0 (148,500) Total expenses Net operating income 165,000 (165,000) $ 2. Compute the net advantage of purchasing the new machine using only relevant costs in your analysis. (Do not round intermediate calculations.) Net advantage of purchasing the new machine $ 99,000 3. What is the minimum saving in annual operating costs that must be achieved in order for the president to consider buying the new machine? Minimum saving in costs
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