Question
In: Accounting
(Calculating EAC) Barry Boswell is a financial analyst for Dossman Metal Works, Inc. and he is...
(Calculating EAC) Barry Boswell is a financial analyst for Dossman Metal Works, Inc. and he is analyzing two alternative configurations for the firm's new plasma cutter shop. The two alternatives, denoted A and B below, will perform the same task, but alternative A will cost $80,000 to purchase, while alternative B will cost only$ 55,000.Moreover, the two alternatives will have very different cash flows and useful lives. The after-tax costs for the two projects are as followed.
.
|
Year |
Alternative A |
Alternative B |
|||
|
0 |
$(80,000) |
$(55,000) |
|||
|
1 |
(20,000) |
(6,000) |
|||
|
2 |
(20,000) |
(6,000) |
|||
|
3 |
(20,000) |
(6,000) |
|||
|
4 |
(20,000) |
||||
|
5 |
(20,000) |
||||
|
6 |
(20,000) |
||||
|
7 |
(20,000) |
||||
a. Calculate each project's EAC, given a discount rate of
10 percent.
b. Which of the alternatives do you think Barry should select? Why?
Solutions
Expert Solution
| Req a: | ||||||
| Alternative- A | ||||||
| Year | Cash flows | PVF @ 10% | Present value | |||
| 0 | -80000 | 1 | -80000 | |||
| 1 | -20000 | 0.909091 | -18181.8 | |||
| 2 | -20000 | 0.826446 | -16528.9 | |||
| 3 | -20000 | 0.751315 | -15026.3 | |||
| 4 | -20000 | 0.683013 | -13660.3 | |||
| 5 | -20000 | 0.620921 | -12418.4 | |||
| 6 | -20000 | 0.564474 | -11289.5 | |||
| 7 | -20000 | 0.513158 | -10263.2 | |||
| Present value of cash outflows | -177368 | |||||
| Present Annuity factor for 7 years | 4.868 | |||||
| Equivalent Annual cash inflows | -36435.5 | |||||
| Alternative-B | ||||||
| Year | Cash flows | PVF @ 10% | Present value | |||
| 0 | -55000 | 1 | -55000 | |||
| 1 | -6000 | 0.909091 | -5454.55 | |||
| 2 | -6000 | 0.826446 | -4958.68 | |||
| 3 | -6000 | 0.751315 | -4507.89 | |||
| Present value of cash outflows | -69921 | |||||
| Present Annuity factor for 3 years | 2.487 | |||||
| Equivalent Annual cash inflows | -28114.6 | |||||
| Req B: As equivalent annual cash outflow is low in Alternative-B | ||||||
| hence, Alternative-B shall be selected | ||||||
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