K. Kim Inc. must install a new air conditioning unit in its mainplant. Kim absol
ID: 2770631 • Letter: K
Question
K. Kim Inc. must install a new air conditioning unit in its mainplant. Kim absolutely must install one or the other of unitsbecause otherwise the highly profitable plant would have to shutdown. Two units are available, HCC and LCC (for high and lowcapital costs). HCC has a high capital cost but relatively lowoperating costs, while LCC has a low capital cost but higheroperating costs because it uses more electricity. The unit’scosts are shown below. Kim’s WACC is 7 percent.K. Kim Inc.must install a new air conditioning unit in its main plant. Kimabsolutely must install one or the other of units because otherwisethe highly profitable plant would have to shut down. Two units areavailable, HCC and LCC (for high and low capital costs). HCC has ahigh capital cost but relatively low operating costs, while LCC hasa low capital cost but higher operating costs because it uses moreelectricity. The unit’s costs are shown below. Kim’sWACC is 7 percent.
0 1 2 3 4 5
|_____________|___________|___________|___________|____________|
HCC -$600,000 $50,000 $50,000 $50,000 $50,000 $50,000
LCC -$100,000 $175,000 $175,000 $175,000 $175,000 $175,000
a. Which unit would you recommend?Explain?
b. If Kim’s controller wanted to knowthe IRRs of the two projects, what would you tell him?
c. If the WACC rose to 15 percentwould this affect your recommendation? Explain your answer and whythis result occurred?
Explanation / Answer
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