Precision Mfg.is trying to decide which one of two machines to purchase.Machine A costs $811,000,has a 9-year life,and requires $164,000 in pretax annual operating costs.Machine B costs $939,000,has a 10-year life,and requires $109,000 in pretax annual operating costs.Either machine will be depreciated using the straight-line method to zero over its life.Neither machine will have any salvage value.Whichever machine is selected,it will never be replaced.The discount rate is 11 percent and the tax rate is 34 percent.Which machine should be purchased and why?

Question

Quizplus · Accepted Answer

OCF_A = -$164,000(1 - .34)+ ($811,000/9)(.34)= -$77,602.22NPV_A = -$811,000 - $77,602.22((1 - 1/1.11⁹)/.11)= -$1,240,687.18OCF_B = -$109,000(1 - .34)+ ($939,000/10)(.34)= -$40,014.00NPV_B = -$939,000 - $40,014.00 ((1 - 1/1.11¹⁰)/.11)= -$1,174,651.73Difference A-B = -$1,240,687.18 - (-$1,174,651.73)= -$66,035.45Since the machine will not be replaced,Machine B should be purchased because it has the higher (less negative)NPV.