ABC is evaluating a proposal to purchase a new machine that would cost $150,000 and have a salvage value of $20,000 in 5 years. It would provide annual operating cash savings of $25,000, as follows:

Old Machine | New Machine | |
---|---|---|

Salaries | $40,000 | $20,000 |

Supplies | 7,000 | 6,000 |

Maintenance | 9,000 | 5,000 |

Total | $56,000 | $31,000 |

If the new machine is purchased, the old machine will be sold for its current salvage value of $20,000. If the new machine is not purchased, the old machine will be disposed of in 5 years at a predicted salvage value of $5,000. The old machine’s present book value is $60,000. If kept, in 1 year the old machine will require repairs predicted to cost $30,000. Dale Davis’s cost of capital is 8%.

Required:

a. Compute the NPV.

b. Should the new machine be purchased? Why or why not?

A company has 7% loan notes in issue which are redeemable in seven years’ time at a 5% premium to their nominal value of $100 per loan note. The before-tax cost of debt of the company is 9% and the after-tax cost of debt of the company is 6%.

What is the current value of each loan note?