A Manufacturing Company Is Considering Replacing a Broken Metal Cutting

question 3

Essay

A manufacturing company is considering replacing a broken metal cutting machine. Several options have been
proposed.
· Option 1: The broken machine can be sold today for $2,500.
· Option 2: It can be overhauled completely for $8,000, after which it will produce$3,000 in annual cash flows
over the next five years. The resale value of the asset at the end of five years is zero.
· Option 3: It can be replaced for $20,000. The life of the replacement machine is five years, and it has an
estimated salvage value of $3,000 at the end of five years. The anticipated operating cash flows for each year
will be $6,000.
If the firm's required rate of return of 15%, what should the company do?

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Definitions:

Variable Resource

A resource whose quantity can change in the short run to increase or decrease production levels.

Fixed Resource

A resource whose quantity cannot easily be changed in the short term, such as land, buildings, or equipment.

Accounting Profit

The difference between total revenue and total explicit costs, not accounting for implicit costs, according to traditional accounting methods.

Entrepreneur's Potential Earnings

Entrepreneur's potential earnings are the anticipated income an entrepreneur expects to generate from their business ventures, considering the risks and opportunities involved.