Cost savings: replacement decision Rossman Instruments, Inc. is considering leasing new state-of-the-art machinery at an annual cost of $900,000. The new machinery has a 4-year expected life. It will replace existing machinery leased 1 year earlier at an annual lease cost of $490,000 committed for 5 years. Early termination of this lease contract will incur a $280,000 penalty. There are no other fixed costs. The new machinery is expected to decrease variable costs from $42 to $32 per unit sold because of improved materials yield, faster machine speed, and lower direct labor, supervision, materials handling, and quality inspection requirements. The sales price will remain at $56. Improvements in quality, production cycle time, and cutomer responsiveness are expected to increase annual sales from 36,000 units to 48,000 units. The variable costs stated earlier exclude the inventory carrying costs. Because the new machinery is expected to affect inventory levels, the following estimates are also provided. The enhanced speed and accuracy of the new machinery are expected to decrease production cycle time by half and, consequently, lead to a decrease in work-in-process inventory level from 3 months to just under 1.5 months of production. Increased flexibility with these new machines is expected to allow a reduction in finished goods inventory from 2 months of production to just 1 month. Improved yield rates and greater machine reliability will enable a reduction in raw materials inventory from 4 months of production to just 1.5 months. Annual inventory carrying cost is 20% of inventory value. Category Old Machine New Machine Average per unit cost of raw materials inventory $12 $11 Average per unit cost of work-in-process inventory 25 20 Average per unit cost of finished goods inventory 46 36 Variable cost per unit sold 42 32 a) What is the total value of annual benfits from the new machinery, including changes in inventory carrying costs? Round all calculations to whole dollar amounts. $Answer b) Rossman's will incur an early termination penalty on the existing equipment lease. Would you still advise the company to replace the existing equipment? Answer 2 Yes
Cost savings: replacement decision Rossman Instruments, Inc. is considering leasing new state-of-the-art machinery at an annual cost of $900,000. The new machinery has a 4-year expected life. It will replace existing machinery leased 1 year earlier at an annual lease cost of $490,000 committed for 5 years. Early termination of this lease contract will incur a $280,000 penalty. There are no other fixed costs. The new machinery is expected to decrease variable costs from $42 to $32 per unit sold because of improved materials yield, faster machine speed, and lower direct labor, supervision, materials handling, and quality inspection requirements. The sales price will remain at $56. Improvements in quality, production cycle time, and cutomer responsiveness are expected to increase annual sales from 36,000 units to 48,000 units. The variable costs stated earlier exclude the inventory carrying costs. Because the new machinery is expected to affect inventory levels, the following estimates are also provided. The enhanced speed and accuracy of the new machinery are expected to decrease production cycle time by half and, consequently, lead to a decrease in work-in-process inventory level from 3 months to just under 1.5 months of production. Increased flexibility with these new machines is expected to allow a reduction in finished goods inventory from 2 months of production to just 1 month. Improved yield rates and greater machine reliability will enable a reduction in raw materials inventory from 4 months of production to just 1.5 months. Annual inventory carrying cost is 20% of inventory value. Category Old Machine New Machine Average per unit cost of raw materials inventory $12 $11 Average per unit cost of work-in-process inventory 25 20 Average per unit cost of finished goods inventory 46 36 Variable cost per unit sold 42 32 a) What is the total value of annual benfits from the new machinery, including changes in inventory carrying costs? Round all calculations to whole dollar amounts. $Answer b) Rossman's will incur an early termination penalty on the existing equipment lease. Would you still advise the company to replace the existing equipment? Answer 2 Yes
Chapter1: Financial Statements And Business Decisions
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Transcribed Image Text:Cost savings: replacement decision
Rossman Instruments, Inc. is considering leasing new state-of-the-art machinery at an annual cost of
$900,000. The new machinery has a 4-year expected life. It will replace existing machinery leased
1 year earlier at an annual lease cost of $490,000 committed for 5 years. Early termination of
this lease contract will incur a $280,000 penalty. There are no other fixed costs.
The new machinery is expected to decrease variable costs from $42 to $32 per unit sold
because of improved materials yield, faster machine speed, and lower direct labor, supervision,
materials handling, and quality inspection requirements. The sales price will remain at $56.
Improvements in quality, production cycle time, and cutomer responsiveness are expected to
increase annual sales from 36,000 units to 48,000 units.
The variable costs stated earlier exclude the inventory carrying costs. Because the new machinery
is expected to affect inventory levels, the following estimates are also provided. The enhanced
speed and accuracy of the new machinery are expected to decrease production cycle time by half
and, consequently, lead to a decrease in work-in-process inventory level from 3 months to just
under 1.5 months of production. Increased flexibility with these new machines is expected to
allow a reduction in finished goods inventory from 2 months of production to just 1 month.
Improved yield rates and greater machine reliability will enable a reduction in raw materials
inventory from 4 months of production to just 1.5 months. Annual inventory carrying cost is 20% of
inventory value.
Category Old Machine New Machine
Average per unit cost of raw materials inventory $12 $11
Average per unit cost of work-in-process inventory 25 20
Average per unit cost of finished goods inventory 46 36
Variable cost per unit sold 42 32
a) What is the total value of annual benfits from the new machinery, including changes in
inventory carrying costs? Round all calculations to whole dollar amounts.
$Answer
b) Rossman's will incur an early termination penalty on the existing equipment lease. Would you
still advise the company to replace the existing equipment? Answer 2
Yes
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