The New England Soap Company is considering adding some processing equipment to

Question

The New England Soap Company is considering adding some processing equipment to the plant to aid in the removal of impurities from some raw materials. By adding the processing equipment, the firm can purchase lower grade raw materials at reduced cost and upgrade it for use in its products. Four different pieces of processing equipment are being considered: The company can obtain a 15% annual return on its investment in other projects and is willing to invest money on the processing equipment only as Long as it can obtain 15% annual return on each increment of money invested. Which one, if any, of the alternatives should be selected? use a challenger-defender rate of return analysis. Assume each alternative has a 20 year useful life.

Explanation / Answer

Now B & D has samee IRR. So first C (smallest IRR) is defender and (B,D) are challenger. we see that IRRC < IRR(B,D) so now new defender is (B,D) and challenger is A here IRRA > IRR(B,D) so winner is A which is the bet option

A B C D Intial Investsment (II) 10000 18000 25000 30000 Annual Saving 4000 6000 7000 9000 Annual cost 2000 3000 3000 4000 Net annual benefit (B) 2000 3000 4000 5000 n 20 20 20 20.00 i (PW of B = II) 0.1943 0.1578 0.1503 0.1578 r = 1/(1+i) 0.837 0.864 0.869 0.864 PW at i 9998 17997 24996 29994 3 2 1 2

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