Question

Rory Company has a machine with a book value of $75,000 and a remaining five-year useful life. A new machine is available at a cost of $112,500, and Rory can also receive $60,000 for trading in its old machine. The new machine will reduce variable manufacturing costs by $13,000 per year over its five-year useful life. Calculate the incremental income. (Any losses or outflows should be entered with a minus sign.)

Answer 1

Answer:

It is a good investment, the company should purchase the machine and sale the old one.

Explanation:

$\right[\begin{array}{cccc}-&old&new&differential\\purchase&0&-112,500&-112,500\\proceed \:from \:sale&0&60,000&60,000\\cost \:savings&0&13,000&13,000\\total \:cost \:saving&0&65,000&65,000\\Net&0&78,000&12,500\\\end{array}\right]$

We post the purchase cost and the proceeds from the machine sale,

The book value of the machine is irrelevant, we are looking to save cash. The old machine value is a sunk cost. It is a cost already incurred. We don't use it in the calculations.

Then we calculate the saving for five years.

Last, we add the differential analysis column.

Because is gives a positive amount, purchase the new machien would be a good idea.