Harper Hospital needs to purchase a new fleet of ambulances and is debating betw

Question

Harper Hospital needs to purchase a new fleet of ambulances and is debating between two options. Option A will cost $3,750,000 upfront and will require maintenance costs of $25,000 per year. Option A is estimated to have a useful life of four years. Option B, on the other hand, is estimated to have a useful life of six years and will cost $5,000,000 upfront. Maintenance costs for Option B will be $0 in year 1 and year 2, $10,000 in year 3 and year 4, and $15,000 in year 5 and year 6. The hospital uses a discount rate of 5.5%. Which option should the hospital choose?

Explanation / Answer

Solution.

Calculation of Cash out flow N.P.V of both option.

Option A

option B.

As per N.P.V option 1 is acceptable.

Cash out flow Year Amount P.V Factore @5.5% P.V Initial cash outflow 1 3750,000 1 3,750,000 maintenance costs 1 $25,000 .9478 23,695 maintenance costs 2 $25,000 .8984 22,460 maintenance costs 3 $25,000 .8516 22,290 maintenance costs 4 $25,000 .8072 20,180 Total 3,950,000 3,838,625

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