QUESTION 18 CK Precisions is analyzing two machines to determine which one it sh

Question

QUESTION 18 CK Precisions is analyzing two machines to determine which one it should purchase. Whichever machine is purchased will be replaced at the end of its useful life. The company requires a 14 percent rate of return and uses straight-line depreciation to a zero book value over the life of the machine. Machine A has a cost of $710,000, annual operating costs of $55,000, and a 8-year life. Machine B costs $340,000, has annual operating costs of $112,000, and a 5-year life. The firm currently pays no taxes. Which machine should be purchased and why? Machine A; because it will save the company about $7,451 a year Machine A; because it will save the company about $2,982 a year Machine B; because it will save the company about $10,126 a year Machine B; because it will save the company about $4,384 a year Machine B; because it will save the company about $6,219 a year

Explanation / Answer

Machine A; bacause it will save the company abount $2,982 a year

Working:

Annual Equiavalent Cost = (Initial Cost / Present Value of annuity of 1)+Annual cost Machine A: Annual Equiavalent Cost = (710000/4.6389)+55000 = $ 2,08,054 Working: Present Value of annuity of 1 = (1-(1+i)^-n)/i Where, = (1-(1+0.14)^-8)/0.14 i 14% =         4.6389 n 8 Machine B: Annual Equiavalent Cost = (340000/3.4331)+112000 = $ 2,11,036 Working: Present Value of annuity of 1 = (1-(1+i)^-n)/i Where, = (1-(1+0.14)^-5)/0.14 i 14% =         3.4331 n 5 Now, Machine A Machine B Annual Equivalent Cost $ 2,08,054 $ 2,11,036 Saving in annual equiavlent cost in case of Machine A = $ 2,11,036 - $ 2,08,054 = $       2,982 It is better to purchase Machine A to save annually $ 2,982

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