Suppose we are thinking about replacing an old computer with a new one. The old
ID: 2756644 • Letter: S
Question
Suppose we are thinking about replacing an old computer with a new one. The old one cost us $1,320,000; the new one will cost, $1,580,000. The new machine will be depreciated straight-line to zero over its five-year life. It will probably be worth about $320,000 after five years.The old computer is being depreciated at a rate of $264,000 per year. It will be completely written off in three years. If we don’t replace it now, we will have to replace it in two years. We can sell it now for $440,000; in two years, it will probably be worth $122,000. The new machine will save us $292,000 per year in operating costs. The tax rate is 35 percent, and the discount rate is 10 percent.
Calculate the EAC for the old computer and the new computer. (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations and round your final answers to 2 decimal places. (e.g., 32.16))
What is the NPV of the decision to replace the computer now? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))
EAC New computer $ Old computer $Explanation / Answer
Ans:
Year Sales Less: Costs Less: Depn. Net EBT Tax @34% EAT Add Back Tax on depn Net cash flow for the year Year wise cash flows 0 Initial fixed asset investment -2850000 -2850000 0 Initial inv. In W/C -350000 -350000 -3200000 1 2130000 825000 950000 355000 120700 234300 323000 557300 557300 2 2130000 825000 950000 355000 120700 234300 323000 557300 557300 3 2130000 825000 950000 355000 120700 234300 323000 557300 3 Sale of fixed assets 235000 79900 155100 155100 712400