Problem 7 (10 points): Victoria, Inc., is considering replacing a machine. The f
ID: 2518412 • Letter: P
Question
Problem 7 (10 points): Victoria, Inc., is considering replacing a machine. The following data are available: Replacement Old Machine Machine $90,000 $70,000 Original cost Useful life in years Current age in years Book value 10 0 Disposal value now Disposal value in 5 years Annual cash operating costs $50,000 $16,000 0 $14,000 0 $8,000 For each item above, indicate below whether it is a sunk cost (SC) irrelevant (0) or relevant (R) to the decision. Old Machine Replacement Machine Original cost Useful life in years Current age in years Book value Disposal value now Disposal value in 5 years Annual cash operating costsExplanation / Answer
Indicate whether the given items are sunk cost, relevent or irrelevant as follows:
Original cost of the old machine is a sunk cost because it cannot be recovered. Whereas the original cost of the replacement machine is relevant because this is the amount the company will have to spend to buy the michine now.
Usefule life in years is relevant for both the items because it is important to evaluate whether the old machine should be replaced or not.
Current age and book value of the machines are irrelevant to this decision because will ot be used to evaluate the replacement.
Disposal value now is irrelevant for the old machine but relevant in case of replacement machine because the cost of the replacement machine will be reduced by the disposal value of the old machine now.
Old Machine Relacement Machine Original cost Sunk cost Relevant Useful life in years Relevant Relevant Current age in years Irrelevant Irrelevant Book value Irrelevant Irrelevant Disposal value now Irrelevant Relevant Disposal value in five years Relevant Relevant Annual cash operating costs Relevant Relevant