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Capital Budgeting Problem

WRL Company operates a snack food center at the Hartsfield Airport.On January 1, 2003, WRL purchased a special cookie-cutting machine,which has been used for three years. It is January 1, 2006, and WRLis considering whether it should purchase a new, more-efficientcookie-cutting machine. WRL has two options:

(1) continue using the old machine or

(2) sell the old machine and purchase a new machine.

The seller of the new machine is not offering a trade-in. Thefollowing information has been obtained:

Item Old Machine New Machine
Initial purchase cost of machines $ 80,000 $ 120,000
Useful life from acquisition date ( years) 7 4
Terminal disposal value at the end of useful life on
Dec. 31, 2009, assumed for depreciation purposes $ 10,000 $20,000
Expected annual cash operating costs:
Variable cost per cookie $ 0.20 $ 0.14
Total fixed costs $ 15,000 $ 14,000
Estimated disposal value of machines:
January 1, 2006 $ 40,000 $120,000
December 31, 2009 $ 7,000 $ 20,000
Expected number of cookies made and sold each year 300,000300,000

WRL is subject to a 40% income tax rate. The straight-linedepreciation method is used for tax purposes. Assume that any gainor loss on the sale of machines is treated as an ordinary tax itemand will affect the taxes paid by WRL in the year in which itoccurs. WRL’s after- tax required rate of return is 16%. Assume allcash flows occur at year-end except for initial investmentamounts.

Required:

1. You have been asked whether WRL should buy the new machine. Tohelp in your analysis, calculate the following:

a. One- time after- tax cash effect of disposing of the oldmachine.

b. Annual recurring after- tax cash operating savings from usingthe new machine (variable and fixed).

c. Cash tax savings due to differences in annual depreciation ofthe old machine and the new machine.

d. Difference in after- tax cash flow from terminal disposal of newmachine and old machine.

2. Use your calculations in requirement 1 and the net present valuemethod to determine whether WRL should use the old machine oracquire the new machine.

3. How much more or less would the recurring after- tax cashoperating savings of the new machine need to be for WRL to earnexactly the 16% after- tax required rate of return? Assume that allother data about the investment do not change.

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Deanna Hettinger
Deanna HettingerLv2
28 Sep 2019

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Prepare journal entries

(2)The next activity occurred on February1, 20x7. A molding machine was purchased for $247,000. The machinecost an additional $10,000 to have it shipped to the plant. Once onlocation, the company had $5,000 in installation and operatingcosts before the machine was ready to begin full operation. Twoemployees went to a one-day training school to learn how to operatethe new machine at a cost of $1,400. The molding machine has an8-year useful life and a salvage value of$22,000. The company paid cash for theshipping, installation, and training charges plus $25,000 for themachine. The balance due on the machine was set up with a notepayable.

(3)On March 1, 20x7, a cutting machine wastraded in for a similar new computerized cutting machine. The oldmachine, which originally cost $130,000, had been at the companysince January 1, 20x1 and had 1 year and 10 months of useful liferemaining. The salvage value of the old machine was estimated at$10,000, but the company received $36,000 as a trade in value. Thenew machine cost $280,000, which included delivery andinstallation. The new machine has an expected life of 10 years atwhich time it could probably be sold for $40,000. The company madea down payment of $20,000 and signed a five year note payable forthe balance due.

I need the following events entered into a general journal.

Thank you.

(1) Kevin and Gloria got together with thedocumentation and began to review the long-term asset activities.On January 15, 20x7, the company disposed of a stamping machine.The machine was originally purchased on January 15, 20x0 for$84,000. The machine was estimated to have a useful life of 10years with a zero salvage value. (Note: Gray & Greene use astraight-line method of depreciation for all long-term assetsunless otherwise noted.) No effort was made to sell or trade themachine because the machine was broken beyond repair. $100 was alsopaid to a salvage company to disassemble and remove the machinefrom the plant.

(2) The next activity occurred on February 1,20x7. A molding machine was purchased for $247,000. The machinecost an additional $10,000 to have it shipped to the plant. Once onlocation, the company had $5,000 in installation and operatingcosts before the machine was ready to begin full operation. Twoemployees went to a one-day training school to learn how to operatethe new machine at a cost of $1,400. The molding machine has an8-year useful life and a salvage value of $22,000. Thecompany paid cash for the shipping, installation, and trainingcharges plus $25,000 for the machine. The balance due on themachine was set up with a note payable.

(3) On March 1, 20x7, a cutting machine wastraded in for a similar new computerized cutting machine. The oldmachine, which originally cost $130,000, had been at the companysince January 1, 20x1 and had 1 year and 10 months of useful liferemaining. The salvage value of the old machine was estimated at$10,000, but the company received $36,000 as a trade in value. Thenew machine cost $280,000, which included delivery andinstallation. The new machine has an expected life of 10 years atwhich time it could probably be sold for $40,000. The company madea down payment of $20,000 and signed a five year note payable forthe balance due.

(4) April 1, 20x7 a pressing machine was soldfor $71,000. It originally cost $185,000 and had a book value onDecember 31, 20x6 of $72,500. The annual depreciation for thismachine was $18,000. The machine was expected to have a $5,000salvage value in about four years.

(5) To celebrate April 15, 20x7, the companyacquired a new utility van, which would be used to pick up anddeliver parts to customers and suppliers in the immediate vicinity.The van has a sticker price of $37,595, but the company was able tosecure the vehicle for $35,000. The van will probably have a usefullife of 5 years with a book value of $5,000 at the end of thattime. The company paid $7,000 and signed a 3 year note for thebalance due.

(6) On May 1, 20x7 an old pressing machine wastraded in for a new computerized processing machine. These machineswere used on different production lines and considered asdissimilar equipment. The old pressing machine cost $157,000 whenit was purchased on May 1, 20x3 and had a useful life of 8 yearswith a salvage value of $13,000. A $90,000 trade-in allowance wasgiven for the pressing machine. The new processing machine had alist price of $350,000, but only cost the company $260,000 afterthe trade-in. The new machine had a nine-year useful life with a$26,000 salvage value. The company paid $52,000 down and signed anote payable for the balance due.

(7) August 1, 20x7 the company had to completea major overhaul on an assembly machine. The machine had beenpurchased for $430,000 on August 1, 20x2. The machine was expectedto last for 12 years with a $70,000 salvage value. If the repairshad not been completed, the machine would not function efficientlyin the company and would have to be disposed for its parts, whichwould have brought the company about $30,000. The cost of therepairs was $33,000, but the overhaul was expected to add 2 yearsonto the remaining life of the machine. The repairs were paid forin cash.

The following data relate to the Machinery account of Eshkol,Inc. at December 31, 2014. Machinery A B C D Original cost $90,160$99,960 $156,800 $156,800 Year purchased 2009 2010 2011 2013 Usefullife 10 years 15,000 hours 15 years 10 years Salvage value $6,076$5,880 $9,800 $9,800 Depreciation method Sum-of-the-years'-digitsActivity Straight-line Double-declining balance Accum. depr through2014* $61,152 $68,992 $29,400 $31,360 *In the year an asset ispurchased, Eshkol, Inc. does not record any depreciation expense onthe asset. In the year an asset is retired or traded in, Eshkol,Inc. takes a full year’s depreciation on the asset. The followingtransactions occurred during 2015. (a) On May 5, Machine A was soldfor $25,480 cash. The company’s bookkeeper recorded this retirementin the following manner in the cash receipts journal. Cash 25,480Machinery (Machine A) 25,480 (b) On December 31, it was determinedthat Machine B had been used 4,116 hours during 2015. (c) OnDecember 31, before computing depreciation expense on Machine C,the management of Eshkol, Inc. decided the useful life remainingfrom January 1, 2015, was 10 years. (d) On December 31, it wasdiscovered that a machine purchased in 2014 had been expensedcompletely in that year. This machine cost $54,880 and has a usefullife of 10 years and no salvage value. Management has decided touse the double-declining-balance method for this machine, which canbe referred to as “Machine E.” Prepare the necessary correctingentries for the year 2015. Record the appropriate depreciationexpense on the above-mentioned machines. (If no entry is required,select "No entry" for the account titles and enter 0 for theamounts. Round answers to 0 decimal places, e.g. 45,892. Creditaccount titles are automatically indented when amount is entered.Do not indent manually.) No. Account Titles and Explanation DebitCredit (a) (To record current depreciation.) (To properly recordthe sale.) (b) (c) (d) (To Record the original purchase of themachine.) (To record depreciation.)

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