Beryl's Iced Tea currently rents a bottling machine for $53,000 per year, including all maintenance expenses. It is considering purchasing a machine instead, and is comparing two options: a. Purchase the machine it is currently renting for $150,000. This machine will require $21,000 per year in ongoing maintenance expenses. b. Purchase a new, more advanced machine for $255,000. This machine will require $18,000 per year in ongoing maintenance expenses and will lower bottling costs by $13,000 per year. Also, $36,000 will be spent upfront training the new operators of the machine. Suppose the appropriate discount rate is 8% per year and the machine is purchased today. Maintenance and bottling costs are paid at the end of each year, as is the rental of the machine. Assume also that the machines will be depreciated via the straight-line method over seven years and that they have a ten-year life with a negligible salvage value. The corporate tax rate is 20%. Should Beryl's Iced Tea continue to rent, purchase its current machine, or purchase the advancedmachine? To make this decision, calculate the NPV of the FCF associated with each alternative. Note: the NPV will be negative, and represents the PV of the costs of the machine in each case.

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter9: Capital Budgeting And Cash Flow Analysis

Section: Chapter Questions

Problem 4P

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Question

Beryl's Iced Tea currently rents a bottling machine for

$53,000

per year, including all maintenance expenses. It is considering purchasing a machine instead, and is comparing two options:

a. Purchase the machine it is currently renting for

$150,000.

This machine will require

$21,000

per year in ongoing maintenance expenses.

b. Purchase a new, more advanced machine for

$255,000.

This machine will require

$18,000

per year in ongoing maintenance expenses and will lower bottling costs by

$13,000

per year. Also,

$36,000

will be spent upfront training the new operators of the machine.

Suppose the appropriate discount rate is

per year and the machine is purchased today. Maintenance and bottling costs are paid at the end of each year, as is the rental of the machine. Assume also that the machines will be depreciated via the straight-line method over seven years and that they have a ten-year life with a negligible salvage value. The corporate tax rate is

20%.

Should Beryl's Iced Tea continue to rent, purchase its current machine, or purchase the advancedmachine? To make this decision, calculate the NPV of the FCF associated with each alternative.

Note:

the NPV will be negative, and represents the PV of the costs of the machine in each case.

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