Kendle Knitting Mills is looking to purchase additional weaving looms of different sizes. One supplier has offered an appropriate configuration of machines valued at $175,000. Kendle projects incremental income from these looms before depreciation at $40,000 a year over an eight year period. Kendle can purchase similar used machines for $85,000 but the equipment is less efficient and will only last four years. Income from these is projected at $40,000, $37,000, $33,000, and $28,000 respectively. Both used and new machines will have no salvage value at the end of their useful lives. If Kendle is looking for a 14% return, determine if Kendle should buy new or used looms using common-shortest period of time approach. What should Kendle buy?

Question

Quizplus · Accepted Answer

The correct choice is based on calculating the Net Present Value (NPV) of both options and comparing them. The NPV calculation considers the initial investment, the annual incremental income, and the discount rate (14% in this case). The used looms have a higher NPV than the new ones because their lower initial cost and the pattern of income, despite being lower in the later years, offers a better return when discounted back at the 14% rate.

Kendle Knitting Mills Is Looking to Purchase Additional Weaving Looms