Replacement Process a.

Old equipment
a. Old equipment Initial Outlays(no)
Current Price $1,200,000 Operating CFs
Price(5 yrs ago) -$1,500,000
Annual sales $200,000 Sales
Operating cost -$120,000 OC
Selling price (year 10th) $125,000 Depreciation
b. New equipment EBIT
Cost -$2,500,000 Tax(40%)
Additional Investment -$200,000 OCFs
Annual sales $600,000
Operating cost -$300,000 Terminal year
Selling price (year 10th) $600,000 Recovery
Total Terminal CF
Tax 40%
Rate of return 10% Cash flows

Result OCFs
NPV 1 $615,377.11 Terminal CF
NPV 2 $451,804.76 CFs

> The company should not purchase new equipment NPV

b. New equipment
Initial Outlays
Cost
Old equipment selling price
Additional Investment
Total Initial CF

Operating CFs

Annual Sales
OC
Depreciation
Tax(40%)
OCFs

Terminal year
Recovery
Total Terminal CF

Cash flows

Initial Outlays
OCFs
Terminal CF
CFs

NPV
Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Year 11
$200,000 $200,000 $200,000 $200,000 $200,000 $200,000 $200,000
-$120,000 -$120,000 -$120,000 -$120,000 -$120,000 -$120,000 -$120,000
$100,000 $100,000 $100,000 $100,000 $100,000 $100,000 $100,000
$180,000 $180,000 $180,000 $180,000 $180,000 $180,000 $180,000

$88,000 $88,000 $88,000 $88,000 $88,000 $88,000 $88,000

$125,000
$125,000

Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Year 11

$88,000 $88,000 $88,000 $88,000 $88,000 $88,000 $88,000

$88,000 $88,000 $88,000 $88,000 $88,000 $88,000 $88,000

$615,377.11

-$2,500,000
$1,200,000
-$200,000
-$1,500,000

Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Year 11

$600,000 $600,000 $600,000 $600,000 $600,000 $600,000 $600,000
-$300,000 -$300,000 -$300,000 -$300,000 -$300,000 -$300,000 -$300,000
$250,000 $250,000 $250,000 $250,000 $250,000 $250,000 $250,000

$280,000 $280,000 $280,000 $280,000 $280,000 $280,000 $280,000

$600,000
$600,000

1 2 3 4 5 6
-$1,500,000
$280,000 $280,000 $280,000 $280,000 $280,000 $280,000
 $280,000 $280,000 $280,000 $280,000 $280,000 $280,000

$451,804.76
Year 12 Year 13 Year 14 Year 15
$200,000 $200,000 $200,000 $200,000
-$120,000 -$120,000 -$120,000 -$120,000
$100,000 $100,000 $100,000 $100,000
$180,000 $180,000 $180,000 $180,000

$88,000 $88,000 $88,000 $88,000

Year 12 Year 13 Year 14 Year 15

$88,000 $88,000 $88,000 $88,000
$125,000
$88,000 $88,000 $88,000 $213,000

Year 12 Year 13 Year 14 Year 15

$600,000 $600,000 $600,000 $600,000
-$300,000 -$300,000 -$300,000 -$300,000
$250,000 $250,000 $250,000 $250,000

$280,000 $280,000 $280,000 $280,000

7 8 9 10

$280,000 $280,000 $280,000 $280,000

$600,000
$280,000 $280,000 $280,000 $880,000
EVALUATING COST-CUTTING PROPOSAL
Initial Outlays
Equipment Cost 80000
Total Initial Cost 80000
Operating CFs Year 1 Year 2 Year 3 Year 4 Year 5
Savings 22000 22000 22000 22000 22000
Depreciation -16000 -16000 -16000 -16000 -16000
EBIT 6000 6000 6000 6000 6000
Tax(34%) 2040 2040 2040 2040 2040
Net Income 3960 3960 3960 3960 3960
OCFs 19960 19960 19960 19960 19960
Terminal Year(No)

NPV ($4,335.90)