Do I buy a new machine or use an old one?

One technique for deciding whether to buy a new machine or to use an old machine is to look at the future cash flows if you buy a new machine and the future cash flows if you use the old machine. The cash flows will include the cash inflows and the cash outflows for each option. Since these cash flows will occur at different times, you must “discount” the future cash flows to a present value. (This is necessary in order to recognize the time value of money.) The calculation with the highest positive net present value is the option to select. Predicting all of the future cash flows can be difficult especially if the new machine will offer more features that could result in more sales, etc.

Obviously, the further into the future you look, the more uncertain are the cash flows. This problem will be offset when the future cash flows are discounted to the present. The further into the future, the bigger the discounting. This means that the present value for distant amounts will be relatively minor in amount.

Even if it is difficult to predict the near future, you could do several calculations. Each calculation would contain different assumptions. You might find that the answer will be the same under each calculation or set of assumptions.

Of course deciding to buy a new machine or to use an old one might be so obvious that the present value calculations are not necessary. For example, if your old machine is becoming unsafe, or is becoming too noisy for residents, there’s little point to calculate the net present value.

You can learn more decisions on buying a new machine by reading Evaluating Business Investments (under the Topics Explained tab) on www.AccountingCoach.com.

About the Author: Harold Averkamp (CPA) has worked as an accountant, consultant, and university accounting instructor for more than 25 years.

He is the author of the 2010 Master Accounting Download Package which has been praised for it's ability to simplify accounting in a way that anybody can understand.