Bruno's, Inc

question 208

Multiple Choice

Bruno's, Inc. is analyzing two machines to determine which one they should purchase. The company requires a 14% rate of return, each machine belongs in a 30% CCA class, and the firm faces a tax rate of 35%. Machine A has a cost of $290,000, annual operating costs of $8,000, and a 3-year life. Machine B costs $180,000, has annual operating costs of $12,000, and has a 2-year life. Whichever machine is purchased will be replaced at the end of its useful life. Which machine should Bruno's purchase and why? (Assume that both machines have zero salvage value at the end of their useful lives.)

• A) machine A; because it will save the company about $8,600 a year
• B) machine A; because it will save the company about $102,134 a year
• C) machine B; because it will save the company about $92,628 a year
• D) machine B; because it will save the company about $9,506 a year
• E) machine B; because its equivalent annual cost is $192,000

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Definitions:

Warrants

Financial derivatives that give the holder the right, but not the obligation, to buy or sell a security, usually equity, at a predetermined price before expiration.

Risk-Free Interest Rate

The theoretical rate of return on an investment with zero risk, typically represented by government bonds.

Call Option

An option contract that gives the holder the right, but not the obligation, to buy a specified quantity of an underlying asset at a set price within a specific period.

Strike Price

The predetermined price at which an option's contract can be exercised, allowing for the purchase or sale of the underlying asset.