Problem

A local newspaper purchased a color photography and reproduction system for $28,000. The annual revenue from the work of this system is $20,000 for the first year, decreasing by $500 due to reduced productivity. Annual operating and maintenance costs are $10,000 for the first year, increasing by $300 per year. The resale value at the end of the first year is $18,000, reducing by $4,000 each year until year 4 and remaining at $6,000 thereafter. The Page 190 newspaper company uses straight-line depreciation, a five-year life, and zero resale value for depreciation purposes. Its aggregate tax rate is 55%. The company is profitable and can use the tax effect of depreciation.

a. If the cost of money is assumed to be 5%, what is the economic life of this system?

b. If at the end of the fourth year of operation the company is offered a price of $12,000 for the system, what would be the opportunity cost of not accepting the offer?