Copy Center, Inc., offers a variety of document and computer services to the business community in midtown


Copy Center, Inc., offers a variety of document and computer services to the business community in midtown Cleveland. It is considering replacing one of its copiers. The old copier has a book value of $5,000 but can be sold for $12,000. The new copier being considered will cost $90,000 and offers a number of attractive features. The expected life is three years with no expected salvage value at the end of its life. The company expects that the new copier will generate $40,000, $35,000, and $25,000 in after-tax cash flows, respectively, in the first, second, and the third year of operations. The firm’s manager, however, tells you that this estimate does not include the depreciation tax shield.

On the other hand, the old copier is in a relatively good condition and can last three more years with careful maintenance. Demand, though, is expected to be lower because the old copier lacks the features of the new copier. Taking these factors into account, the company projects that the old copier will generate $10,000, $8,000, and $5,000 in after tax cash flows over the next three years. Again, this estimate excludes any tax shield arising from depreciating the copier. At the end of three years, this old copier will have no salvage value.

Copy Center uses a cost of capital of 12% for discounting purposes. Copy Center depreciates its copiers on a straight-line basis over a period of three years. The corporate tax rate is 25%, and all taxes are paid at the end of each year. If Copy Center decided to retain the old copier, it will depreciate the remaining $5,000 book value over the next three years.


a. Compute the net present value of the new copier, assuming that the company goes ahead with the replacement decision.

b. Compute the internal rate of return from investment in the new copier (round off to the nearest percentage), assuming that the company goes ahead with the replacement decision.

c. What is the net present value from keeping the old copier?

d. Under the net present value method, which is the better option? What assumption does this method make with respect to the money that is freed up if the company were to retain the old copier? Does this assumption seem reasonable?

e. Discuss some of the qualitative/nonfinancial factors that may be relevant to this decision.

Net Present Value
What is NPV? The net present value is an important tool for capital budgeting decision to assess that an investment in a project is worthwhile or not? The net present value of a project is calculated before taking up the investment decision at...
Internal Rate of Return
Internal Rate of Return of IRR is a capital budgeting tool that is used to assess the viability of an investment opportunity. IRR is the true rate of return that a project is capable of generating. It is a metric that tells you about the investment...
Salvage Value
Salvage value is the estimated book value of an asset after depreciation is complete, based on what a company expects to receive in exchange for the asset at the end of its useful life. As such, an asset’s estimated salvage value is an important...
Cost Of Capital
Cost of capital refers to the opportunity cost of making a specific investment . Cost of capital (COC) is the rate of return that a firm must earn on its project investments to maintain its market value and attract funds. COC is the required rate of...
Fantastic news! We've Found the answer you've been seeking!

Step by Step Answer:

Related Book For  book-img-for-question

Managerial accounting

ISBN: 978-0471467854

1st edition

Authors: ramji balakrishnan, k. s i varamakrishnan, Geoffrey b. sprin

Question Posted: