The Southern Rail Lines (SRL) is considering replacing its power jack tamper, used to maintain track and roadbed, with a new automatic-raising power tamper. SRL spent $18,000 five years ago for the present power jack tamper and estimated it to have a total life of 12 years. If SRL keeps the old tamper, it must overhaul the old tamper two years from now at a cost of $5,000. SRL can sell the old tamper for $2,500 now; the tamper will be worthless seven years from now.
A new automatic-raising tamper costs $23,000 delivered and has an estimated physical life of 12 years. SRL anticipates, however, that because of developments in maintenance machines, it should retire the new machine at the end of the seventh year for $5,000.
Furthermore, the new machine will require an overhaul costing $10,000 at the end of the fourth year. The new equipment will reduce wages and fringe benefits by $4,000 per year. Track maintenance work is seasonal, so SRL normally uses the equipment only from May 1 through October 31 of each year. SRL transfers track maintenance employees to other work but pays them at the same rate for the rest of the year.
The new machine will require $1,000 per year of maintenance, whereas the old machine requires $1,200 per year. Fuel consumption for the two machines is identical. SRL’s cost of capital is 12 percent per year, and because of operating losses, SRL pays no income tax.
Should SRL purchase the new machine?