Suppose the Burlington Northern Railway is considering replacement of a power jack tamper, used for maintenance of track, with a new automatic raising device that can be attached to a production tamper.
The present power jack tamper cost $35,000 seven years ago and had an estimated life of 15 years. Two years from now, the machine will require a major overhaul estimated to cost $6,500. It can be disposed of now via an outright cash sale for $5,500. There will be no value at the end of another 8 years.
The automatic raising attachment has a delivered selling price of $45,000 and an estimated life of 17 years. Because of anticipated future developments in combined maintenance machines, Burlington Northern management predicts that the company will dispose of the machine at the end of the eighth year to take advantage of newly developed machines. Estimated sales value at the end of 8 years is $6,500.
Tests have shown that the automatic raising machine will produce a more uniform surface on the track than does the power jack tamper now in use. The new equipment will eliminate one laborer whose annual compensation, including fringe benefits, is $36,000.
Track maintenance work is seasonal, and the equipment normally works from May 1 to October 31 each year. Machine operators and laborers are transferred to other work after October 31, at the same rate of pay.
The salesman claims that the annual normal maintenance of the new machine will run about $900 per year. Because the automatic raising machine is more complicated than the manually operated machine, it will probably require a thorough overhaul at the end of the third year, at an estimated cost of $5,500.
Records show the annual normal maintenance of the power jack tamper to be $1,500. Fuel consumption of the two machines is equal. Should Burlington Northern keep or replace the power jack tamper? The company requires a 14% rate of return. Compute PV. Ignore income taxes.