Question

(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?

Answer 1

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