Question

A portable concrete test instrument used in construction for evaluating and profiling concrete surfaces (MACRS-GDS 5-year property class) is under consideration by a construction firm for $18,500. The instrument will be used for 6 years and be worth $3,000 at that time. The annual cost of use and maintenance will be $13,000. Alternatively, a more automated instrument (same property class) available from the manufacturer costs $32,500, with use and maintenance costs of only $5,500 and salvage value after 6 years of $1,500. The marginal tax rate is 40%, and MARR is an after-tax 12%.

Determine which alternative is less costly, based upon comparison of after-tax annual worth.

Show the AW values used to make your decision.

Answer 1

Alternative 1 :

Year	0	1	2	3	4	5	6
Initial Cost	18500
Annual Cost		13000	13000	13000	13000	13000	13000
Depreication rates		20%	32%	19.20%	11.52%	11.52%	5.76%
Depreciation tax savings		-1480	-2368	-1420.8	-852.48	-852.48	-426.24
After tax salavge value							-1800
Net cost	18500	11520	10632	11579.2	12147.52	12147.52	10773.76
NPV at 12%	$ 68,380.21

AW of costs for alternative 1 = 68,380.21*0.12/(1-1.12^-6) = $16,631.83

Alternative 2:

Year	0	1	2	3	4	5	6
Initial Cost	32500
Annual Cost		5500	5500	5500	5500	5500	5500
Depreication rates		20%	32%	19.20%	11.52%	11.52%	5.76%
Depreciation tax savings		-2600	-4160	-2496	-1497.6	-1497.6	-748.8
After tax salavge value							-900
Net cost	32500	2900	1340	3004	4002.4	4002.4	3851.2
NPV at 12%	$ 45,893.52

AW of costs for alternative 2 = 45893.52*0.12/(1-1.12^-6) = $11,162.48

As we can see, the AW of costs is lower for alternative 2. So, alternative 2 is cheaper and hence we should select alternative 2