Question

In: Economics

Two methods of maintenance for indefinite service life are being evaluated: Method 1. The first cost...

Two methods of maintenance for indefinite service life are being evaluated:

Method 1. The first cost would be $60,000, and $25,000 would be required at five-year intervals forever.

Method 2. The first cost would be $150,000, and $180,000 would be required at 50-year intervals of forever.

At I i = 12%, which method is the better one?

Expert Solution

Here we have to calculate the capitalized cost of the maintenance costs:

Method 1:

Capitalized costs = P + [F(A/F, i, n)] / i

= 60,000 + [25,000(A/F, 12%, 5)] / 0.12

= 60,000 + [25,000(0.1574)] / 0.12

= 60,000 + 32,791.67

= $92,791.67

Method 2:

Capitalized costs = P + [F(A/F, i, n)] / i

= 150,000 + [180,000(A/F, 12%, 50)] / 0.12

= 150,000 + [180,000(0.00042)] / 0.12

= 150,000 + 630

= $150,630

Since the capitalized cost of method 1 is less than method 2, therefore, method 2 is better one.

Rahul Sunny answered 3 weeks ago

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