Question

A company is considering replacing an old piece of machinery, which cost $600,000 and has $350,000 of accumulated depreciation to date, with a new machine that has a purchase price of $545,000. The old machine could be sold for $231,000. The annual variable production costs associated with the old machine are estimated to be $61,000 per year for eight years. The annual variable production costs for the new machine are estimated to be $19,000 per year for eight years.

Required:
A. Prepare a differential analysis dated September 13 to determine whether to continue with (Alternative 1) or replace (Alternative 2) the old machine. Refer to the lists of Labels and Amount Descriptions for the exact wording of the answer choices for text entries. For those boxes in which you must enter subtracted or negative numbers use a minus sign. If there is no amount or an amount is zero, enter "0". A colon (:) will automatically appear if required.
B. Determine whether the company should continue with (Alternative 1) or replace (Alternative 2) the old machine.
C. What is the sunk cost in this situation?
Differential Analysis
Continue with Old Machine (Alternative 1) or Replace Old Machine (Alternative 2)
September 13
1 Continue with Old Machine Replace Old Machine Differential Effect on Income
2 (Alternative 1) (Alternative 2) (Alternative 2)
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Answer 1

The company should replace the old machine as doing so reduce total costs by $22,000

Sunk cost is the cost already incurred in purchasing the old machine of $600,000

Step-by-step explanation:

By not buying a new machine the company would incur an annual variable production costs of $61,000 per year,which translates into $488,000 for eight years($61000*8).

If the company decides to buy the new machine,it would incur purchase cost of $545,000 and would receive proceeds of $231,000 on the old machine as well as incur $19,000 annual variable costs of production($152,000 for eight years).

total costs of alternative 1=$488,000

total costs of alternative 2=$545,000-$231,000+$152,000=$466000

incremental benefit of new machine=$488,000-$466,000=$22,000