(Present value tables are required.)Stensels,a plastics processor,is considering the purchase of a high-speed extruder as one option.The new extruder would cost $50,000 and would have a residual value of $5,000 at the end of its 8 year life.The annual operating expenses of the new extruder would be $8,000.The other option that Stensels has is to rebuild its existing extruder.The rebuilding would require an investment of $30,000 and would extend the life of the existing extruder by 8 years.The existing extruder has annual operating costs of $11,000 per year and does not have a residual value.Stensels' discount rate is 14%.Using net present value analysis,which option is the better option and by how much?

Question

Quizplus · Accepted Answer

To compare the two options, we need to calculate the net present value (NPV) of each option and choose the one with the higher NPV.

Option 1: Purchase new extruder
Initial cost = $50,000
Residual value = $5,000
Annual operating expenses = $8,000

Using the present value of an annuity table with a discount rate of 14% and 8 periods, we can calculate the present value of the annual operating expenses:

PV of operating expenses = $8,000 x 5.216 = $41,728

Using the present value of a single amount table with a discount rate of 14% and 8 periods, we can calculate the present value of the initial cost and residual value:

PV of initial cost = $50,000 / 2.158 = $23,155
PV of residual value = $5,000 / 2.158^8 = $1,836

NPV of purchasing new extruder = PV of residual value - PV of initial cost - PV of operating expenses = $1,836 - $23,155 - $41,728 = -$63,047

Option 2: Rebuild existing extruder
Initial cost = $30,000
Annual operating expenses = $11,000

Using the present value of an annuity table with a discount rate of 14% and 8 periods, we can calculate the present value of the annual operating expenses:

PV of operating expenses = $11,000 x 5.216 = $57,376

Using the present value of a single amount table with a discount rate of 14% and 8 periods, we can calculate the present value of the initial cost:

PV of initial cost = $30,000 / 2.158 = $13,887

NPV of rebuilding existing extruder = -PV of initial cost - PV of operating expenses = -$13,887 - $57,376 = -$71,263

Therefore, the net present value of purchasing the new extruder is higher than that of rebuilding the existing extruder by $8,216. Thus, the better option is to purchase the new extruder.

(Present Value Tables Are Required