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Munoz Company paid $97,000 to purchase a machine on January 1, Year 1. During Year 3, a technological breakthrough resulted in the development of a new machine that costs $116,000. The old machine costs $55,000 per year to operate, but the new machine could be operated for only $8,000 per year. The new machine, which will be available for delivery on January 1, year 3, has an expected useful life of five years. The old machine is more durable and is expected to have a remaining useful life of five years. The current market value of the old machine is $31,000. The expected salvage value of both machines is zero. Required Calculate the total avoidable costs in keeping the old machine and buying a new machine. Should the machine be replaced?

Respuesta :

Yes, the old machine should be replaced and the old machine is more durable and is expected to have a remaining useful life of five years.

                            Keeping Old Machine Buying New Machine

Operating costs     $275,000 (55,000*5) $40,000 (8,000*5)

Opportunity costs      31,000

Purchase price      0                                          116,000

Total                       $306,000                          $156,000

Yes, the old machine should be replaced.

The idea of opportunity costs is a major concept in economics. Because by definition they are unseen, opportunity costs can be easily overlooked if one is not careful. Understanding the potential missed opportunities foregone by choosing one investment over another allows for better decision-making.

Opportunity costs represent the benefits an individual, investor or business misses out on when choosing one alternative over another. While financial reports do not show opportunity cost, business owners can use it to make educated decisions when they have multiple options before them.

Learn more about Opportunity costs here

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