The Arcadia Manufacturing Company, based in Arcadia, FL is one of the fastest- growing companies in its industry. According to Ms. Prinze, the company's production vice president, keeping up-to-date with technological changes is what makes the company successful.
Prinze believes a new machine will fill an important need. The machine has an estimated useful life of four years, a purchase price of $250,000, and a residual value of $25,000. The company controller has estimated average annual net income of $11,250 and the following cash flows for the new machine:
Cash Flow Estimates
Year Cash Flows Cash Outflows Net Cash Inflows
1 $ 325,000 $ 250,000 $ 75,000
2 320,000 250,000 70,000
3 315,000 250,000 65,000
4 310,000 250,000 60,000
Prinze uses a 12 percent minimum rate of return and a three-year payback period for capital investment evaluation purposes.
Required
1. Analyze the data about the machine, and decide if the company should purchase it. Use the following evaluation approaches in your analysis: (a) the net present value method, (b) the accounting rate-of-return method, and (c) the payback period method. Use table 1 and 2 in the appendix on the present value tables.
2. Summarize the information generated in requirement 1, and make a recommendation to Prinze.