Problem
As part of the new facility, NuSkin is planning to upgrade its manufacturing equipment. It has budgeted $300,000 for a new piece of equipment. Both budget and quality are important factors. NuSkin has two options: the Basic519 or the Advanced307.
The company that manufactures the Basic519 has been producing equipment for skin care manufacturing for over 30 years. NuSkin's existing machine is from the Basic line, and although the production manager has been happy with it, the repair and maintenance costs have been very high and have been increasing in recent years. These costs have averaged $25,000 annually since the warranty expired.
The Basic519 costs $420,000 and comes with a three-year warranty. The machine would have a lifespan of 10 years and no salvage value. The present value of the tax shield on the equipment is $35,000. The training on this machine is said to be very time consuming, but the production manager is hoping that because NuSkin's current machine is from the same company as the Basic519, the training time will be reduced. Training provided by the manufacturer is included in the cost of purchase. The manufacturer believes that repair costs will be approximately the same as the current machinery.
The company behind the Advanced307 is relatively new to the skin care manufacturing space, and has just one reference listed on the spec sheet. However, the company does have 15 years of experience in manufacturing food and beverage machinery. A benefit of going with the Advanced307 machine is that NuSkin could lease the equipment for $75,000 per year for a 10-year term, which would include any repairs and maintenance costs. Lease payments are due at the beginning of the year. Like the Basic519, the Advanced307 has a lifespan of 10 years. There is a one-time training cost of $20,000. Although NuSkin does not anticipate needing it, this equipment can produce 20% more units in a year than the Basic519.
1. Calculate the net present values (NPVs) of the costs of both machinery options (the Basic519 and the Advanced307), and identify the most cost-effective alternative from a quantitative perspective. Use 11.87% as the discount rate.
2. Provide a qualitative assessment of the Basic519 and the Advanced307, and make an overall recommendation.