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# ugba05 - Problem 2 Hayden Inc has a number of copiers that...

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Summer 2008 Ismail Ceylan UGBA 103 Discussion Section June 12, 2008 Page 1 of 1 Discussion Section #5 Problem 1: The Borstal company has to choose between two machines that do the same job but have different lives. The two machines have the following costs: Year Machine A Machine B 0 40,000 50,000 1 10,000 8,000 2 10,000 8,000 3 10,000+replace 8,000 4 8,000+replace The costs are expressed in real terms. a- Suppose you are the financial manager. If you had to buy one or the other machine and rent it to the production manager for that machine’s economic life, what annual rental payment would you have to charge? Assume a 6% real discount rate and ignore taxes. b- Which machine should Borstal buy? c- Usually the rental payments you derived in part (a) are just hypothetical - a way of cal- culating and interpreting equivalent annual cost . Suppose you actually do buy one of these machines and rent it to the production manager. How much would you actually have to charge in each future year if there is a steady 8% per year inflation?
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Unformatted text preview: Problem 2: Hayden Inc. has a number of copiers that were bought four years ago for \$20,000. Currently maintenance costs \$2,000 a year, but the maintenance agreement expires at the end of two years and thereafter the annual maintenance charge will rise to \$8,000. The machines have a current resale value of \$8,000, but at the end of year 2 their value will have fallen to \$3,500. By the end of year 6 the machines will be valueless and would be scrapped. Hayden is considering replacing the copiers with new machines that would do essentially the same job. These machines cost \$25,000, and the company can take out an 8-year maintenance contract for \$1,000 a year. The machines will have no value by the end of the eight years and will be scrapped. Both machines are depreciated by using 7-year MACRS, and the tax rate is 35 percent. Assume for simplicity that the in±ation rate is zero. The real cost of capital is 7%. When should Hayden replace its copiers?...
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