Question

The Ajax Corporation has an overhead crane that has an estimated remaining life of 10 years. The crane can be sold now for $8,000. If the crane is kept in service, it must be overhauled immediately at a cost of $4,000. After the crane is overhauled, O&M costs will be $3,000 in the first year and will escalate at 5%/year thereafter. The overhauled crane will have zero MV at the end of the 10-year study period. A new crane will cost $25,000, will last for 10 years, and will have a $4,000 MV at that time. O&M costs are $1000 in the first year and will escalate at 2%/year thereafter. The company uses a before-tax MARR of 10% in evaluating investment alternatives.

Should the company replace the old crane?

Does the decision change if the new crane has zero salvage value? Use PW analysis

Answer 1

Crane Kept in service

Discount Factor = 1/(1+MARR)^n

n = year, MARR= 10%

PW = cash flow*Discount factor

New Crane purchasing against selling an old crane.

Initial Cash Flow = New Crane cost - Old Crane Selling Price = 25000-8000

Initial Cash Flow = $17000

New Crane With MV(Salvage Value) of 4000

Old Crane Cash Flow's PW = $(26,319.44)

New Crane Cash Flow PW = $(22,803.14)

Cost of running new crane is less compared to an old crane. So, Company should replace the old crane.

New Crane With MV(Salvage Value) of 0

Old Crane Cash Flow's PW = $(26,319.44)

New Crane Cash Flow PW = $(23,625.31)

Cost of running new crane is still less compared to an old crane. So, Company should replace the old crane.