NOTE: You already replied on this question with the answer as indicated below. Unfortunately, the answer is being marked as incorrect. I’m getting that same answer also, that’s why I asked for help in this problem. I can’t figure out what’s missing in the calculation process. Please take another look. Thanks. Gluon Inc. is considering the purchase of a new high pressure glueball. It can purchase the glueball for $140,000 and sell its old low-pressure glueball, which is fully depreciated, for $24,000. The new equipment has a 10-year useful life and will save $32,000 a year in expenses. The opportunity cost of capital is 8%, and the firm’s tax rate is 40%. What is the equivalent annual savings from the purchase if Gluon uses straight-line depreciation? Assume the new machine will have no salvage value. (Do not round intermediate calculations. Round your answer to 2 decimal places.) Equivalent Annual Savings: $3,935.87

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Asked Jun 8, 2019
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NOTE: You already replied on this question with the answer as indicated below. Unfortunately, the answer is being marked as incorrect. I’m getting that same answer also, that’s why I asked for help in this problem. I can’t figure out what’s missing in the calculation process. Please take another look. Thanks.

 

Gluon Inc. is considering the purchase of a new high pressure glueball. It can purchase the glueball for $140,000 and sell its old low-pressure glueball, which is fully depreciated, for $24,000. The new equipment has a 10-year useful life and will save $32,000 a year in expenses. The opportunity cost of capital is 8%, and the firm’s tax rate is 40%. What is the equivalent annual savings from the purchase if Gluon uses straight-line depreciation? Assume the new machine will have no salvage value. (Do not round intermediate calculations. Round your answer to 2 decimal places.)

 

Equivalent Annual Savings: $3,935.87

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Expert Answer

Step 1

All financials below are in $.

Initial investment = C0 = Purchase cost of new machine – Post tax salvage value of old machine = 140,000 – 24,000 x (1 - 40%) = 125,600

Step 2

Gluon uses straight-line depreciation.

Annual depreciation = Purchase cost of new machine / Life = 140,000 / 10 =14,000

Incremental cash flows, C = (Expenses saved – annual depreciation x (1 – tax rate) + Annual depreciation = (32,000 – 14,000) x (1 – 40%) + 14,000 = 24,800

Step 3

Discount rate = R = 8%

Life of the project, N = 10 years

Hence, NPV = - Initial investment + PV of annual cash flows as annuity = - C0 + ...

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