Question

A specialty concrete mixer used in construction was purchased for $300,000 7 years ago. Its annual O&M costs are $105,000. At the end of the 8-year planning horizon, the mixer will have a salvage value of $5,000. If the mixer is replaced, a new mixer will require an initial investment of $375,000. At the end of the 8-year planning horizon, it will have a salvage value of $45,000. Its annual O&M cost will be only $40,000 due to newer technology. Analyze this using an EUAC measure and a MARR of 15% to see if the concrete mixer should be replaced if the old mixer is sold for its market value of $65,000.

Part a

Use the cash flow approach (insider’s viewpoint approach).

Show the EUAC values used to make your decision:

1- Existing concrete mixer: $ ??????????????

2- New concrete mixer: $ ??????????????

Answer 1

For existing concrete Mixer:
O&M Costs: 105,000 for 8 years

Salvage value after 8 years = $5000

PV Of cash outflow existing concrete Mixer = 105,000/1.15 + 105,000/1.15^2 + ... 105,000/1.15^8 - 5000/1.15^8

= 105000/1.15 * (1/1.15^8-1) / (1/1.15 - 1) - 1634.51

= 105000/1.15 * 0.6731 / 0.13 - 1634.51 = 472745.82 - 1634.51 = 471,111.31

Let the annual cost be e

So e/1.15* (1/1.15^8-1) / (1/1.15 - 1) = 471,111.31

or 4.502e = 471,111.31

or e = 104664.89

For New Concrete Mixer:
Initial Investment = Initial Cost - Market Value of old machine = 375000 - 65000 = 310,000

O&M Cost = 40,000

Scrap Value = 45000

PV of cash outflow of new mixer = 310000 + 40000/1.15 + 40000/1.15^2 + ... + 40000/1.15^8 - 45000/1.15^8

=310000 + 40000/1.15 * (1/1.15^8-1) / (1/1.15 - 1) - 14710.58

= 310000 + 180080 - 14710.58

= 475369.42

Let the annual cost be n

So n/1.15* (1/1.15^8-1) / (1/1.15 - 1) = 475369.42

or 4.502n = 475369.42

or n = 105590.72

Since the EUAC of the new mixer is $105,590.72 and it is higher than the EUAC of the existing mixer at 104,664.89, so the existing mixer should be used.

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