Question

The capital budgeting committee of the Caldwell Pipe Corporation is evaluating the possibility of replacing its old pipe-bending machine with a more advanced model. Information on the existing machine and the new model follows: Existing machine New machine Original cost $200,000 $400,000 Market value now 80,000 Market value in year 5 0 20,000 Annual cash operating costs 40,000 10,000 Remaining life 5 yrs 5 yrs Refer to Caldwell Pipe Corporation. If the company buys the new machine and disposes of the existing machine, corporate profit over the five-year life of the new machine will be ________ than the profit that would have been generated had the existing machine been retained for five years.

Answer 1

Answer:

Caldwell Pipe Corporation

If the company buys the new machine and disposes of the existing machine, corporate profit over the five-year life of the new machine will be ___$150,000_____ than the profit that would have been generated had the existing machine been retained for five years.

Explanation:

a) Data and Calculations:

                                                    Existing machine    New machine

Original cost                                     $200,000              $400,000

Market value now                                 80,000

Market value in year 5                          0                           20,000

Annual cash operating costs               40,000                   10,000

Remaining life                                        5 yrs                       5 yrs

Total cash operating costs             $200,000               $50,000

Difference between the annual cash operating costs = $150,000 ($200,000 - $50,000)

b) Corporate profit is based on the difference between the net revenue and the cost of operations.  With the old machine, the total cash operating costs after 5 years will be $200,000 ($40,000 * 5).  On the other hand, with the new machine, the total cash operating costs after 5 years will be $50,000 ($10,000 * 5).  This makes an operating cost difference of $150,000 ($200,000 - $50,000).