Your firm engaged a consulting outfit to recommend ways of increasing efficiency. The cost of the consulting
Question:
Your firm engaged a consulting outfit to recommend ways of increasing efficiency. The cost of the consulting engagement is $7,500 which has been invoiced and is currently in your firm’s Accounts Payable for payment within the next 30 days.
The consultants have now given you their report and they recommend the purchase of a particular piece of equipment for the factory. It would cost $1 million to purchase from the supplier. It would also require $40,000 to be paid to the supplier in order to have the equipment installed and $10,000 to a third-party shipping firm to have the equipment delivered.
The equipment would reduce current labor costs by $210,000 annually for the next five years that the equipment is operational. Costs of maintenance on the equipment are estimated to be $12,000 per year. The new equipment would also require an additional $12,000 in inventory to be kept on hand. In five years, the equipment would be sold for an expected $700,000 on the second-hand market.
The equipment falls into an asset class with a CCA rate of 10%. The firm’s tax rate is 35%.
The equipment would take up a part of the factory that the company has not been using. Prior to consideration of this equipment, the firm had considered renting out the space. It could get $6,000 per year in rent if it did not buy the equipment and install it in this space.
If the firm could earn a return of 13% on other investments of equal risk, should it purchase the equipment?
Engineering Economic Analysis
ISBN: 9780195168075
9th edition
Authors: Donald Newnan, Ted Eschanbach, Jerome Lavelle