Compare the two scenarios for acquiring a machine for a project for 25 years exp

Question

Compare the two scenarios for acquiring a machine for a project for 25 years expected operations, at a company with an internal rate of return of i =10%. Which scenario is better?

Scenario 1. Buy an initial small machine at $12,000, it costs $2,400/year to run for the first 10 years, buy a second larger machine at $28,000 and run it for 15 years at a cost of $4,000/year. There is no salvage value at the end of service for either machine.

Scenario 2: Buy a large machine for $30,000 and run it for 25 years at a cost of $1,000/year. At the end of the 25 years, the machine is assumed to have a salvage value of $12,000.

Explanation / Answer

Lets compare the alternatives by NPV method:

Alternative 1:

Alternative 2:

As we observed rom above the tables NPVof cash outflow of Alternative 1 is greater than NPV of cash outflow of Alternative 2.

Hence Alternative 2 should be selected.

Year Casf outflow PV at 10% PV of cash outflow 0 12000 1 12000 1 2400 0.909091 2181.818 2 2400 0.826446 1983.471 3 2400 0.751315 1803.156 4 2400 0.683013 1639.232 5 2400 0.620921 1490.211 6 2400 0.564474 1354.737 7 2400 0.513158 1231.579 8 2400 0.466507 1119.618 9 2400 0.424098 1017.834 10 2400 0.385543 925.3039 11 28000 0.350494 9813.829 12 4000 0.318631 1274.523 13 4000 0.289664 1158.658 14 4000 0.263331 1053.325 15 4000 0.239392 957.5682 16 4000 0.217629 870.5165 17 4000 0.197845 791.3787 18 4000 0.179859 719.4352 19 4000 0.163508 654.032 20 4000 0.148644 594.5745 21 4000 0.135131 540.5223 22 4000 0.122846 491.3839 23 4000 0.111678 446.7126 24 4000 0.101526 406.1024 25 4000 0.092296 369.184 NPV 46888.71

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