Problem 13-25 Net Present Value; Total and Incremental Approaches [LO1]

Eastbay Hospital has an auxiliary generator that is used when power failures occur. The generator is worn out and must be either overhauled or replaced with a new generator. The hospital has assembled the following information:

	Present Generator			New Generator
Purchase cost new	$	16,000		$	20,000
Remaining book value	$	9,000			-
Overhaul needed now	$	8,000			-
Annual cash operating costs	$	12,500		$	7,500
Salvage value-now	$	4,000			-
Salvage value-eight years from now	$	3,000		$	6,000

If the company keeps and overhauls its present generator, then the generator will be usable for eight more years. If a new generator is purchased, it will be used for eight years, after which it will be replaced. The new generator would be diesel-powered, resulting in a substantial reduction in annual operating costs, as shown above.

The hospital computes depreciation on a straight-line basis. All equipment purchases are evaluated using a 16% discount rate. (Ignore income taxes.)

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

Required:

1a.	Determine the net present value using the total-cost approach. (Negative amounts should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, intermediate and final answers to the nearest dollar amount. Omit the "$" sign in your response.)

	Net Present Value
Purchase new generator	$
Overhaul and keep old generator	$

1b.

Should Eastbay Hospital keep the old generator or purchase the new one?

	Purchase the new generator
	Keep the old generator

2.

Using the incremental approach, determine the net present value in favor (or against) purchasing the new generator? (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, intermediate and final answers to the nearest dollar amount. Omit the "$" sign in your response.)

Net present value

$