The CROC Co. is considering a new milling machine. They have narrowed the choice
ID: 2761314 • Letter: T
Question
The CROC Co. is considering a new milling machine. They have narrowed the choices down to three alternatives in addition to the Do Nothing Alternative An engineer is considering the purchase of a copy machine for his/her consulting office. The copy machine will cost $2,000 and have a resale value of $400 at the end of its 5-year life. Having the machine in the office will reduce copy costs by $ 1,000 a year. Copy machine maintenance will be $500 for the first year and will increase by $100 each year. Does the machine have any future worth if the interest rate is 6%?Explanation / Answer
1) The incremental rate of return is computed by deducting high value cash flow less low cash flow project
deluxe has high cash flow and then regular
net benefits of deluxe = 79000 - 16000 = 63000
net benefits of regular = 43000 - 6900 = 36100
Year 0 = -220000 - (-125000) = -95000
Year 1 = 63000 - 36100 = 26900
10 years 15% PVIFA = 5.0188
hence the Net present value Deluxe - regular = 26900*5.0188 - 95000
= 40000
hence we need to increase the MARR to make NPV zero and that percentage would be the IRR
Hence at 25% PVIFA = 3.5705 = 3.5705*26900 = 95000
therefore deluxe - regular the incremental rate of return = 25%
next (Deluxe - alternative economy )
year 0 = -220000 - -(75000) = -145000
benefits = 63000 -20000 = 43000 for 10 years
hence 43000*5.0188 = 215808 -145000 = 70808 + salvage valeu (3000* .247)= 71550
hence we need to increase the MARR to check = at 26.5% the NPV becomes zero
hence deluxe - alternative has incremental rate of return = 26.5%
therefore Project deluxe should be selected since more return is achieved
2) Computation of NPV
Since the NPV is negative there is no scope of the project in future.
Year Cash flow Formula Discount 6% Present value 0 -2000 1 1 -2000 1 500 1000-500 0.94 471.70 2 400 1000-600 0.89 356.00 3 300 1000-700 0.84 251.89 4 200 1000-800 0.79 158.42 5 100 1000-900 0.75 74.73 5 400 0.75 298.90 Net present value -388.37