Question

An international company is economically evaluating to substitute an existing electrical water heater with an array of solar panels. The net installed investment cost of the panels is $1,650. Operating costs for this new technology will be $25 per month. Based on an energy audit, the existing electrical heater uses 21 kilowatt hours (kWh) of electricity per month at $0.15 per kWh. It has been estimated that starting from the beginning of third year, expenses will increase by $4 dollars every coming year for the next five years, after which the expenses will continue to increase by six dollars every coming year until the end of tenth year of the project lifetime. After that there is no operating costs, because of general maintenance, that will be provided for the coming years. The management believes that all this long maintenance service for the electrical heater will cost $250 and will be paid by the end of year 15. On the other hand, the solar panels disposal cost at the end of its 15 years of useful life will be $150.

a. Draw the cash flow diagram if the solar panels have a lifetime of 15 years?

b. What is AW of this project at MARR=6% if the solar panels have a lifetime of 15 years? Explain in your own words the meaning of AW for this project.

Answer 1

At year 0, Initial investment = - $1650

At year 1, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 = - $262.2

At year 2, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 = - $262.2

At year 3, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $4(increase in expenses) = - $258.2

At year 4, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $8(increase in expenses) = - $254.2

At year 5, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $12(increase in expenses) = - $250.2

At year 6, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $16(increase in expenses) = - $246.2

At year 7, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $20(increase in expenses) = - $242.2

At year 8, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $26(increase in expenses) = - $236.2

At year 9, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $32(increase in expenses) = - $230.2

At year 10, the difference of electrical heater expenses and solar panel expenses = (21*0.15*12months) - (25*12months) = 37.8 - 300 + $38(increase in expenses) = - $224.2

At year 11, solar panel expenses= (25*12months) = - $300

At year 12, solar panel expenses= (25*12months) = - $300

At year 13, solar panel expenses= (25*12months) = - $300

At year 14, solar panel expenses= (25*12months) = - $300

At year 15, the difference of long maintenance of electrical heater and disposal cost of solar panel = $250-$150 = $100

This project exceeds the cost and expenses of the existing water heater setup. As per the cash flow diagram, the new project clearly has negative cash flows as compared to the existing project. Hence, it is not worth accepting the solar panel project at minimum acceptable rate of return of 6%