Question

13. A manufacturing company, called "Manufacturing Co", must purchase new equipment for one of its assembly lines. Three different options (A, B, and C) are under consideration. Option A, which has an acquisition cost of $110,000, is standard equipment that has already been on the market for a number of years. Options B and C are new equipment recently developed by a new company, called "EquipmentCo". EquipmentCo will offer a reduced price of $75,000 for option B and $25,000 for option C. However, since this will be the first time the equipment will be used, it is expected that more scheduled maintenance (downtime) will be required to make sure the equipment is running as expected. That is, option A will have to be shut down for 1 week each year, option B will have to be shut down for 2 weeks each year, and option C will have to be shut down for 4 weeks each year. Furthermore, expected total cost on maintenance for the standard equipment is $10,000 per week, however, if Manufacturing Co selects option B or C then Equipment Co will provide maintenance at a reduced cost of $5,000 per week. These are the maintenance costs incurred while maintenance is being performed on the system (outside the scheduled maintenance period the maintenance costs are assumed to be 0). Assume each option is shut down only once each year (i.e. all scheduled maintenance is performed in one shot. For example, option A is shut down for 1 week, and then operates continuously for the rest of the year until the annual maintenance program begins the next year). Also, it is expected that unscheduled maintenance will never be required due to the rigorous annual scheduled maintenance program that will be implemented. The interest rate is 9% and the equipment will be operational for 5 years. The requirements for the equipment are that the acquisition cost must not exceed $110,000 and the availability of the system must be at least 0.95. Prepare a decision evaluation display that considers the equipment requirements and life cycle cost for options A, B, and C. Provide all relevant numerical values on your decision evaluation display for each of options A, B, and C. State any assumptions made. (13 marks) With reference to your decision evaluation display, comment on each option and state which option should be selected. (2 marks)

Answer 1

Before preparing decision evaluation display, we need to check the availability and total cost for all the machines.

Availability

Total no. of weeks in a year = 52 weeks

Downtime of A = 1 week

Availability of A = (52-1) / 52 = 51/52 = 0.9807

Downtime of B = 2 weeks

Availability of B = (52-2) / 52 = 50/52 = 0.9615

Downtime of C = 4 weeks

Availability of C = (52-4) / 52 = 48/52 = 0.9231

Total Life Cycle Cost

1. Acquisition Cost

For Machine A = $110,000.

For Machine B = $75,000

For Machine C = $25,000

2. Interest

Assuming the simple interest for 5 years,

I= PRN 100

where P = Acquisition Cost, R = Rate of interest = 9%, N = No. of years = 5 years

LA = PRN 100 110,000 x 9 x 5 100 = 49,500

PRN IB = 75,000 x 9 x 5 -= 33, 750 100 100

IB= PRN 100 25,000 x 9 x 5 -= 11, 250 100

3. Downtime Cost

Downtime Cost = Total Downtime in a year * No. of years * Cost per downtime

Downtime Cost of A = 1 * 5 * 10,000 = $50,000

Downtime Cost of B = 2 * 5 * 5,000 = $50,000

Downtime Cost of C = 4 * 5 * 5,000 = $100,000

Total Life Cycle Cost = Acquisition Cost + Interest + Downtime Cost

Total Life Cycle Cost of A = 110,000 + 49,500 + 50,000 = $209,500

Total Life Cycle Cost of B = 75,000 + 33,750 + 50,000 = $158,750

Total Life Cycle Cost of C = 25,000 + 11,250 + 100,000 = $136,250

Decision Evaluation Display :

Machine Requirement :

Availability > 0.95 and Acquisition Cost < 110,000

Option	Requirements	Decision Consideration
Availability	Acquisition Cost	Total Life Cycle Cost
A	0.9807	$110,000	$209,500
B	0.9615	$75,000	$158,750
C	0.9231	$25,000	$136,250

Assumption : Simple Interest method is assumed in calculation of Interest for calculating Total Life Cycle cost.

Comments on options

Option A : Option A satisfies the requirements for both, Availability and Acquisition Cost however Total Life Cycle cost of A is very high compared to rest 2 options.

Option B : Option B satisfies the requirements for both, Availability and Acquisition Cost. Total Life Cycle cost of B is comparable to most economical option C.

Option C : Option C satisfies the requirement for Acquisition Cost however it does not satisfy the requirement of Availability. As it is not satisfying the basic requirement, even after having most economic costs, option C can't be used.

As option C is not valid, we are left with only two options A and B. Both satisfies basic requirements however Total Life Cycle Cost of B is very less as compared to A and hence we should select Option B.