Two incinerators are being considered by a waste management company. Design A ha

Question

Two incinerators are being considered by a waste management company. Design A has an initial cost of $2,000,000, has annual operating and maintenance costs of $950,000, and requires overhauls every 5 years at a cost of $1,275,000. Design B is more sophisticated, including computer controls; it has an initial cost of $5,950,000, has annual operating and maintenance costs of $600,000, and requires overhauls every 10 years at a cost of $3,175,000.

Using a 7.0 %/year interest rate, determine the capitalized cost for each design.

Design A:

Design B:

Explanation / Answer

Two incinerators are being considered by a waste management company. Design A has an initial cost of $2,000,000, has annual operating and maintenance costs of $950,000, and requires overhauls every 5 years at a cost of $1,275,000.

Capitalized Cost = Initial Cost + (Annual Cost ÷ Rate of interest)

Capitalized Cost = $2,000,000 + ($950,000 + $1,275,000 (A/F, 7%, 5) ÷ 0.07)

Capitalized Cost = $2,000,000 + ($950,000 + $1,275,000 (0.1739) ÷ 0.07)

Capitalized Cost = $2,000,000 + ($950,000 + $221,722) ÷ 0.07)

Capitalized Cost = $2,000,000 + 16,738,886

Capitalized Cost = $18,738,886

Design B is more sophisticated, including computer controls; it has an initial cost of $5,950,000, has annual operating and maintenance costs of $600,000, and requires overhauls every 10 years at a cost of $3,175,000.

Capitalized Cost = Initial Cost + (Annual Cost ÷ Rate of interest)

Capitalized Cost = $5,950,000 + ($600,000+ $3,175,000 (A/F, 7%, 10) ÷ 0.07)

Capitalized Cost = $5,950,000 + ($600,000+ $3,175,000 (0.0724) ÷ 0.07)

Capitalized Cost = $5,950,000 + ($600,000+ $229,870 ÷ 0.07)

Capitalized Cost = $5,950,000 + $11,855,286

Capitalized Cost = $17,805,286

Using a 7.0 %/year interest rate, determine the capitalized cost for each design.

Design A: $18,738,886

Design B: $17,805,286

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