Question

A grinding machine made by ABC Grinding Company is getting very old and requires major overhaul now in order to keep it running properly. The overhaul expenses are $(100,000 +D8×1,000 ). Major overhauls are expected to continue to occur every 3 years thereafter up to and including Year 9 if we want to keep the machine working properly. After the last overhaul, the machine will immediately be resold for $(150,000+D8×1,000). Assume the overhaul expenses will remain the same and the discount rate is 5% per year.

Draw a cash flow diagram illustrating the above situation using the convention mentioned in Lecture 3.

Answer 1

To draw a cash flow diagram illustrating the situation, plot the cash inflows and outflows over time. Major overhaul expenses occur every 3 years and the machine is resold after the last overhaul.

Step-by-step explanation:

To draw a cash flow diagram illustrating the situation, we need to plot the cash inflows and outflows over time. In this case, the major overhaul expenses occur every 3 years and the machine is resold after the last overhaul. Here's how the cash flow diagram would look:

- Year 0: Cash outflow of $100,000 + D8×1,000 for the first overhaul

- Year 3: Cash outflow of $100,000 + D8×1,000 for the second overhaul

- Year 6: Cash outflow of $100,000 + D8×1,000 for the third overhaul

- Year 9: Cash outflow of $100,000 + D8×1,000 for the final overhaul, and cash inflow of $150,000 + D8×1,000 from reselling the machine

We repeat this pattern every 3 years until Year 9. The cash inflows and outflows are discounted at a rate of 5% per year to account for the time value of money.