Question
Woolrich Companys market research division has projected a substantial increase in demand over the next several years for one of the companys products. To meet
Woolrich Companys market research division has projected a substantial increase in demand over the next several years for one of the companys products. To meet this demand, the company will need to produce units as follows:
Year | Production in Units |
1 | 20,000 |
2 | 30,000 |
3 | 40,000 |
410 | 45,000 |
At present, the company is using a single model 2600 machine to manufacture this product. To increase its productive capacity, the company is considering two alternatives: |
Alternative 1. The company could purchase another model 2600 machine that would operate along with the one it now owns. The following information is available on this alternative: |
a. | The model 2600 machine now in use was purchased for $143,000 four years ago. Its present book value is $85,800, and its present market value is $84,000. |
b. | A new model 2600 machine costs $184,000 now. The old model 2600 machine will have to be replaced in six years at a cost of $204,000. The replacement machine will have a market value of about $140,000 when it is four years old. |
c. | The variable cost required to produce one unit of product using the model 2600 machine is given under the general information below. |
d. | Repairs and maintenance costs each year on a single model 2600 machine total $3,000. |
Alternative 2. The company could purchase a model 5200 machine and use the old model 2600 machine as standby equipment. The model 5200 machine is a high-speed unit with double the capacity of the model 2600 machine. The following information is available on this alternative: |
a. | The cost of a new model 5200 machine is $254,000. |
b. | The variable cost required to produce one unit of product using the model 5200 machine is given under the general information below. |
c. | The model 5200 machine is more costly to maintain than the model 2600 machine. Repairs and maintenance on a model 5200 machine and on a model 2600 machine used as a standby would total $4,500 per year. |
The following general information is available on the two alternatives: |
a. | Both the model 2600 machine and the model 5200 machine have a 10-year life from the time they are first used in production. The scrap value of both machines is negligible and can be ignored. Straight-line depreciation is used by the company. |
b. | The two machine models are not equally efficient. Comparative variable costs per unit of product are as follows: |
Model 2600 | Model 5200 | |||
Direct materials per unit | $ | 0.38 | $ | 0.30 |
Direct labor per unit | 0.40 | 0.21 | ||
Supplies and lubricants per unit | 0.02 | 0.09 | ||
Total variable cost per unit | $ | 0.80 | $ | 0.60 |
c. | No other factory costs would change as a result of the decision between the two machines. |
d. | Woolrich Company uses an 24% discount rate. (Ignore income taxes.) |
Click here to view Exhibit 11B-1 and Exhibit 11B-2, to determine the appropriate discount factor(s) using tables. |
Required: |
1a. | What is the net present value of alternative 1? (Use the total cost approach.) (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, other intermediate calculations and final answer to the nearest whole dollar.) |
Net present value | $ |
1b. | What is the net present value of alternative 2? (Use the total cost approach.) (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, other intermediate calculations and final answer to the nearest whole dollar.) |
Net present value | $ |
1c. | Which alternative should the company choose? | ||||
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2. | Suppose that the cost of direct materials increases by 50%. Would this make the model 5200 machine more or less desirable? | ||||
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3. | Suppose that the cost of direct labor increases by 25%. Would this make the model 5200 machine more or less desirable? | ||||
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