Question

Jerome Harrington manages the Butte plant of Montana Manufacturing (MM). He has been
approached by a representative of Futuristic Engineering regarding the possible replacement
of an important piece of production equipment. While the representative has made some
compelling arguments in favor of replacing the 3-year-old equipment (notably an increase in
efficiency), Harrington is hesitant. He is hoping to be promoted next year to manager of a
larger, more strategic plant in Missoula, and he knows that the net income reported on this
year's Income Statement for Butte will be a key factor in that decision. Data provided are:
* The original equipment was purchased for $1,020,000 three years ago. It had an estimated
useful life of 5 years, with zero salvage value. The current market value is $244,800. MM uses
straight-line depreciation.
*The new equipment will cost $612,000, with a 2-year estimated useful life and a salvage
value of zero.
*The new equipment, being more efficient, will reduce utility costs by $119,000 annually, and
will reduce direct material costs by $102,000 annually.
Required:
(1) Which alternative would Harrington choose, given his personal aspirations? Show your
calculations to justify your answer.
(2) Which alternative is best for the company over the two-year timeframe? Show your
calculations to justify your answer.
(3) EXTRA CREDIT: at what price would Harrington be willing to purchase the new equipment
now?

Answer 1

Answer