Question

Pearl, a large manufacturing company, currently uses a large printing press in its operations and is considering two replacements: the POX341 and POW581. The PDX costs $496,000 and has annual maintenance costs of $9,600 for the first 5 years and $14,600 for the next 10 years. After 15 years, the PDX will be scrapped (salvage value is zero). In contrast, the POW can be acquired for $124,000 and requires maintenance of $29,200 a year for its 10-year life. The salvage value of the POW is expected to be zero in 10 years. Assuming that Pearl must replace its current printing press (it has stopped functioning), it has a 10-percent cost of capital, and all cash flows are after tax, which replacement press is the most appropriate? (Round answers to 2 decimal places, c.g. 125.25.) Chain Replication Approach: NPV of PDX341 $ NPV of PDW581 5 We would prefer Equivalent Annual NPV Approach: Equivalent Annual NPV of POX341 Equivalent Annual NPV of PDW581 We would prefer

Answer 1

Solution :-

(a)

Net Present Worth = Initial Cost + Present Value of Annual Cost

NPV of PDX341 = $496,000 + $9,600 * PVAF ( 10% , 5 ) + $14,600 * PVAF ( 10% , 10 ) * PVF ( 10% , 5 )

= $496,000 + ( $9,600 * 3.7908 ) + ( $14,600 * 6.1446 * 0.6209 )

= $496,000 + $36,391.56 + $55,703.27

= $588,094.8

NPV of PDW581 = $124,000 + $29,200 * PVAF ( 10% , 5 )

= $124,000 + ( $29,200 * 6.1446 )

= $303,421.4

We would Prefer PDW581 on the Basis of NPV

(b)

Equivalent Annual NPV = NPV * A/P ( r , n )

Now Equivalent Annual NPV of PDX341 = $588,094.8 * A/P ( 10% , 15 )

= $588,094.8 * 0.131474

= $77,319.04

Now Equivalent Annual NPV of PDX341 = $303,421.4 * A/P ( 10% , 10 )

= $303,421.4 * 0.1627

= $49,380.44

On the basis of Equivalent Annual NPV , Prefer PDW581

if there is any doubt please ask in comments

Thank you