At the beginning of last year (2019), Richter Condos installed a mechanized elevator for its tenants. The owner of the company, Ron Richter, recently returned from an industry equipment exhibition where he watched a computerized elevator demonstrated. He was impressed with the elevator's speed, comfort of ride, and cost efficiency. Upon returning from the exhibition, he asked his purchasing agent to collect price and operating cost data on the new elevator. In addition, he asked the company’s accountant to provide him with cost data on the company’s elevator. This information is presented below.

Old Elevator New Elevator
Purchase price $98,500 $159,000
Estimated salvage value 0 0
Estimated useful life 5 years 4 years
Depreciation method Straight-line Straight-line
Annual operating costs other than depreciation:
Variable $34,400 $11,000
Fixed 22,400 8,600

Annual revenues are $240,000, and selling and administrative expenses are $28,000, regardless of which elevator is used. If the old elevator is replaced now, at the beginning of 2020, Richter Condos will be able to sell it for $24,700.
Required:
a. Determine any gain or loss if the old elevator is replaced.
b. Prepare a 4-year summarized income statement for each of the following assumptions:
1. The old elevator is retained.
2. The old elevator is replaced.
c. Using incremental analysis, determine if the old elevator should be replaced.

Cost$120,000 Accumulated depreciation(24,000*)Book value96,000Sales proceeds(25,000) Loss on sale $ 71,000*$120,000 ÷ 5 years = $24,000 [$120,000 – ($120,000 ÷ 5) - $25,000 = $71,000][Cost – Accum. depr. – Sales proceeds = Loss on sale]

b. Prepare a 4-year summarized income statement for each of the following assumptions:

1.The old elevator is retained. Retain Old Elevator Revenues ($240,000 X 4 yrs.) $960,00012

Less costs:Variable costs ($35,000 X 4)$140,000Fixed costs ($23,000 X 4)92,000Selling & administrative116,000*Depreciation96,000444,000Net income$516,000*($29,000 X 4)

2.The old elevator is replaced.Replace Old Elevator Revenues $960,000 Less costs: Variable costs ($10,000 X 4)$ 40,000 Fixed costs ($8,500 X 4) 34,000 Selling and administrative 116,000 Depreciation 160,000350,000 Operating income 610,000 Less: Loss on old elevator 71,000 Net income $539,000[$960,000 – (($10,000 x 4) + ($8,500 x 4) + ($29,000 x 4) + ($40,000 x 4)) - $71,000 = $539,000][Rev. – ((VC x No. of yrs.) + (FC x No. of yrs.) + (S&A exp. x No. of yrs.) + (Ann. depr. x No. of yrs.) – Loss on old elevator = Net inc.]

c. Using incremental analysis, determine if the old elevator should be replaced. Retain Old Elevator Replace Old Elevator Net Income Increase (Decrease) Variable operating costs $140,000$ 40,000$ 100,000 Fixed operating costs 92,000 34,000 58,000 New elevator cost-160,000 (160,000) Salvage on old elevator-(25,000)25,000Totals$232,000$209,000$ 23,000d. Why any gain or loss should be ignored in the decision to replace the old elevator.

anthougo anthougo · Answer 2 · 2021-12-04T16:23:49+01:00

a. The determination of gain or loss if Richter Condos replaces the old elevator is as follows:

Cost of old elevator = $98,500

Accumulated depreciation 19,700

Net book value = $78,800

Cash proceeds = $24,700

Loss from sale = $54,100

b. 4-year summarized income statement is prepared as follows:

1. The old elevator is retained:

Total Revenue for 4 years = $960,000 ($240,000 x 4)

Total expenses for 4 years = (418,000) ($104,500 x 4)

Total net income = $542,000

2. The old elevator is replaced:

Total Revenue for 4 years = $960,000 ($240,000 x 4)

Total expenses for 4 years = (349,400) ($87,350 x 4)

Loss from sale (54,100)

Total net income = $556,500

c. Incremental Analysis:

Old Elevator New Elevator Difference

Total net income $542,000 $556,500 $14,500

Data and Calculations:

Old Elevator New Elevator

Purchase price $98,500 $159,000

Estimated salvage value 0 0

Estimated useful life 5 years 4 years

Depreciable amount $98,500 $159,000

($98,500/5) ($159,000/4)

Depreciation method Straight-line Straight-line

Annual depreciation expense $19,700 $

Annual operating costs other than depreciation:

Variable $34,400 $11,000

Fixed 22,400 8,600

Selling and admin. expenses 28,000 28,000

Depreciation expense 19,700 39,750

Total Annual Expenses $104,500 $87,350

Thus, based on an incremental analysis of the total net income, the old elevator should be replaced.

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