D.12% E. 18% o8. machine cost $50,000 on January 1 , 201 the five years 0, and S

Question

D.12% E. 18% o8. machine cost $50,000 on January 1 , 201 the five years 0, and S100,000 om January 1,201s. The average inflation rate over per year. What is the true percentage increase in the cost of the machine from 2010 tc 2015? A.100% B. 72.4% C. 63.9% D. 56.7% E.9.4% Formula Used: ur mutually exclusive alernatives below are being compared using the B-C ratio method Incremental B-C ratio when compared with Alternative Initial Investment Alternative (S millions) L. 20 25 35 45 B-C ratio 1.00 0.95 1.22 0.89 0.40 1.00 2.14 Which alternative, if any, should be selected? A. Alt. J 09. D. Alt. M E. None B. Alt. K C. Alt. L Decision criterion: If it is estimated that alternative J will produce annual benefits averaging $2.5 million, no market value at the end of the 25-year life of the project, what is the maximum annual maintenance cost for alternative J, to justify the project at an MARR of 10% per year? Assume modified B-C ratio analysis. 10. E. $400,000 B. $196,000 C. $256,000 D. $296,000 A. $100,000 Formula Used: ENÇT 331 Test3-page 2

Explanation / Answer

08. Cost of machine in 2010 = $50,000; Cost in 2015 = $100,00; Average inflation rate = 5%

FV = P(1+i)^n

(Here ‘i’ is the nominal interest rate, and ‘n’ is the term)

100,000 = 50,000(1+r)^5

(1+r)^5 = 100,000/50,000 = 2

1+i = 5th root of 2

1+i = 1.1486

i = 1.1486 – 1 = 0.1486 or 14.86%

To find the real or true interest rate, we must apply Fisher equation.

1+i = (1+r)(1+)

(Here ‘r’ is real interest rate, ‘I’ is nominal interest rate, and ‘’ is inflation rate)

1+r = 1.1486 / 1.05 = 1.0939

r = 1.0939 – 1 = 0.0939 or 9.39%.

E. 9.40%.

09. Alternative K.

Alternative K should be selected. Because, as a decision rule, in case of mutually exclusive projects, the project with the highest IRR should be selected)

10. C. $256,000.

(The annual worth of benefits for 25 years at 10% works out to $275,250, and the maximum annual maintenance cost that is less than the benefits is $256,000, for B-C ratio to be greater than 1)

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