The Machine Tool Division is considering the purchase of a piece of highly-automated, robotic production equipment. It

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Question:

The Machine Tool Division is considering the purchase of a piece of highly-automated, robotic production equipment. It would replace older machines and would offer improvements in quality, and some additional capacity for expansion. Because of the magnitude of the proposed expenditure, a careful estimate of the costs and benefits of the project is needed.

They are currently using several old-style machines that together cost $700,000. Depreciation of $220,000 has already been charged against this total cost; depreciation charges are $80,000 annually. Management believes these machines will need to be replaced after six more years. They have a current market value of $250,000.

The old machines require 12 workers per shift earning $13.50/hr plus 3 maintenance workers paid $14.50/hr. The plant operates day and afternoon shifts five days each week; maintenance workers are assigned to the afternoon shift only. Maintenance expenses have been running at $5,000 annually; the cost of electricity has been $26,600 per year. The production process is not only labor-intensive but also physically demanding. Workplace injuries are not uncommon and lately, medical claims have increased.

The new machine will have a total cost that includes shipping, installation and testing of $1.5 million. The plant will also need $350,000 in modifications to accommodate the new machine. These costs will be capitalized and depreciated over the six-year estimated life of the machine. The new machine would require only two skilled operators (one per shift) who would earn $20/hr. Maintenance will be outsourced and cost $90,000 per year. The annual cost of electricity is estimated to be $50,000.

Certain aspects of the decision are difficult to quantify. Management’s relationship with the union hasn’t always been a smooth one and union leadership may not agree to the layoff of the redundant workers. Reassigning them to positions in other divisions might be easier but there are currently only a handful of suitable openings, some of which are not in the collective bargaining unit.

b) Identify and analyze the relevant cash flows for the two alternatives - buying the new machine vs. continuing to use the old ones.

c. List and describe briefly any areas of uncertainty or concern for this project – beyond the obvious ones described in the narrative. What effect might they have? Bullet points are just fine.

d. Based on your results in parts b & c, explain why you would or would not proceed with the new machine.