Question
Suppose there were an alternative replacement machine that could do the same job as the new stamping machine under your consideration in Question 1. The
Suppose there were an alternative replacement machine that could do the same job as the new stamping machine under your consideration in Question 1. The alternate choice offers the following projected incremental cash flows:
Compute the NPV, IRR, and MIRR for this alternative machine. Would this alternate choice affect the decision you made in Question 1? Why or why not?
| Year | Estimated Cash Flow |
| 0 | ($425,000) |
| 1 | $203,554 |
| 2 | $208,650 |
| 3 | ($110,000) |
| 4 | $217,500 |
| 5 | $203,420 |
| 6 | $210,790 |
| 7 | $208,635 |
| 8 | $438,554 |
*Please show all excel used to compute the answer.
*Please use question 1 below to answer question 2.
Question 1
Should you replace the old piece of equipment with the new one under consideration? Substantiate your answer using NPV, IRR, and MIRR.
The company should replace the old piece of equipment with a new one. Replacing a new has a NPV of $689,855.45, IRR of 36% and MIRR of 21.1%.
Replacement will be more profitable since the NPV is positive and both IRR and MIRR are greater than the cost of capital.
Explanation:
Step 1: New machine depreciation
Basis=Purchase cost +transportation and installation costs
Basis=$635,000+$100,000=$735,000
| ownership Yr | 5-Yr | Basis | Depreciation |
| A | B | A*B | |
| 1 | 20% | 735,000 | 147,000 |
| 2 | 32% | 735,000 | 235,200 |
| 3 | 19% | 735,000 | 139,650 |
| 4 | 11.50% | 735,000 | 84,525 |
| 5 | 11.50% | 735,000 | 84,525 |
| 6 | 6% | 735,000 | 44,100 |
Step 2: Old machine annual depreciation
=(Cost-Salvage value)/Useful life
=(485000-110000)/(7+8)
=(485000-110000)/(7+8)
=25000
Step 3:Change in depreciation tax shield
| Year | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 |
| New machine depreciation | 147,000 | 235,200 | 139,650 | 84,525 | 84,525 | 44,100 | ||
| Old machine depreciation | 25,000 | 25,000 | 25,000 | 25,000 | 25,000 | 25,000 | 25,000 | 25,000 |
| Change in depreciation (X) | 122,000 | 210,200 | 114,650 | 59,525 | 59,525 | 19,100 | (25,000) | (25,000) |
| Tax rate (y) | 20% | 20% | 20% | 20% | 20% | 20% | 20% | 20% |
| Change in depreciation tax shield (X*Y) | 24,400 | 42,040 | 22,930 | 11,905 | 11,905 | 3,820 | (5,000) | (5,000) |
Step 4: Increase in working capital
= Inventories+Accounts Receivables
=$58,000+$65,000
=$123,000
Step 4: Change in total contribution per
Old machine total contribution=Units sold*(Selling price-Variable cost
Old machine total contribution per year=124000*(6-1.93)
Old machine total contribution per year=504680
New machine total contribution per year=142500*(8-2.75)
New machine total contribution per year=748125
Increase in total contribution per year=748125-504680=243445
Step 5: Increase in fixed costs
=$130,425-118,500
=11925
Step 6: Change in salvage value
=260,000-127,000
=133,000
Step 5: Analysis
| Year 0 | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | Year 6 | Year 7 | Year 8 | |
| New machine cost | (635,000) | ||||||||
| transportation and installation costs | (100,000) | ||||||||
| Investment in working capital | (123,000) | ||||||||
| Sale of old machine | 264,000 | ||||||||
| Total initial cost | (594,000) | ||||||||
| Increase in contribution margin | 243,445 | 243,445 | 243,445 | 243,445 | 243,445 | 243,445 | 243,445 | 243,445 | |
| Less increase in fixed costs | 11,925 | 11,925 | 11,925 | 11,925 | 11,925 | 11,925 | 11,925 | 11,925 | |
| Additional salvage value | 133,000 | ||||||||
| Increase in operating income (A) | 255,370 | 255,370 | 255,370 | 255,370 | 255,370 | 255,370 | 255,370 | 388,370 | |
| Taxes T=A*20% | 51,074 | 51,074 | 51,074 | 51,074 | 51,074 | 51,074 | 51,074 | 77,674 | |
| Increase in operating income after tax (A-T) | 204,296 | 204,296 | 204,296 | 204,296 | 204,296 | 204,296 | 204,296 | 310,696 | |
| Change in depreciation tax shield | 24,400 | 42,040 | 22,930 | 11,905 | 11,905 | 3,820 | (5,000) | (5,000) | |
| Increase in operating cash flows | 228,696 | 246,336 | 227,226 | 216,201 | 216,201 | 208,116 | 199,296 | 305,696 | |
| Working capital recouped | 123,000 | ||||||||
| Total operating cash flows | 228,696 | 246,336 | 227,226 | 216,201 | 216,201 | 208,116 | 199,296 | 428,696 | |
| Discounting factor | 0.909090909 | 0.826446281 | 0.751314801 | 0.683013455 | 0.620921323 | 0.56447393 | 0.513158118 | 0.46650738 | |
| Present value of operating cash flows | 207,905.45 | 203,583.47 | 170,718.26 |
147,668.19 | 134,243.81 | 117,476.06 | 102,270.36 | 199,989.85 | |
| Total present value of operating cash flows | 1,283,855.45 | ||||||||
| Deduct initial investment | (594,000) | ||||||||
| Net present value | 689,855.45 |
| Discounting factor | =1/(1+10%)^1 | =1/(1+10%)^2 | =1/(1+10%)^3 | =1/(1+10%)^4 | =1/(1+10%)^5 | =1/(1+10%)^6 | =1/(1+10%)^7 | =1/(1+10%)^8 |
| Year 0 | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | Year 6 | Year 7 | Year 8 | |
| Cash flows | (594,000) | 228,696 | 246,336 | 227,226 | 216,201 | 216,201 | 208,116 | 199,296 | 428,696 |
| IRR | 36.00% | ||||||||
Cost of capital/ Re-ivestment rate | 10% | ||||||||
| MIRR | 21.1% |
Step by Step Solution
There are 3 Steps involved in it
Step: 1
To compute the NPV IRR and MIRR for the alternative machine I will use the same Excelbased approach ...
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Management and Cost Accounting
Authors: Alnoor Bhimani, Charles T. Horngren, Srikant M. Datar, George Foster
4th edition
1405888202, 978-0273711490, 273711490, 978-1405888202
