Consider the following two options relatedto one of the old but special machine tools in yourmachine shop.• Option 1: You continue to use the old machinetool that was bought four years ago for $12,000.It has been fully depreciated but can be sold for$2,000. If kept, it could be used for three moreyears with proper maintenance and with someextra care. No salvage value is expected at the endof three years. The maintenance costs would run$10,000 per year for the old machine tool.• Option 2: You purchase a brand-new machinetool at a price of $15,000 to replace the presentequipment. Because of the nature of the productmanufactured, it also has an expected economiclife of three years and will have a salvage valueof $5,000 at the end of that time. With the newmachine tool, the expected operating and maintenance costs (with the scrap savings) amount to$3,000 each year for three years.(a) For the old machine tools, what would be theamount of sunk cost that should be recognizedin replacement analysis?(b) What is the opportunity cost of retaining the oldmachine tool now?(c) What is the net incremental benefit (or loss) inpresent value associated with replacing the oldmachine tool at an interest rate of 15%?
Consider the following two options related
to one of the old but special machine tools in your
machine shop.
• Option 1: You continue to use the old machine
tool that was bought four years ago for $12,000.
It has been fully
$2,000. If kept, it could be used for three more
years with proper maintenance and with some
extra care. No salvage value is expected at the end
of three years. The maintenance costs would run
$10,000 per year for the old machine tool.
• Option 2: You purchase a brand-new machine
tool at a price of $15,000 to replace the present
equipment. Because of the nature of the product
manufactured, it also has an expected economic
life of three years and will have a salvage value
of $5,000 at the end of that time. With the new
machine tool, the expected operating and maintenance costs (with the scrap savings) amount to
$3,000 each year for three years.
(a) For the old machine tools, what would be the
amount of sunk cost that should be recognized
in replacement analysis?
(b) What is the
machine tool now?
(c) What is the net incremental benefit (or loss) in
present value associated with replacing the old
machine tool at an interest rate of 15%?
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