Question

A standard electric motor is rated at 10 horsepower (HP) and costs $800. Its fullload

efficiency is specified to be 87%. A newly designed, high efficiency motor of

the same size has an efficiency of 93%, but costs $1,200. It is estimated that the

motors will operate at a rated 10-HP output for 2,500 hours a year, and the cost of

energy will be $0.07 per kilowatt-hour. Each motor is expected to have 12-year

life. At the end of 12 years, the first motor will have a salvage value of $50, and

the second motor will have a salvage value of $100. Consider the MARR to be

8%. (Note: 1HP = 0.7457 KW)

1- What is the net present value (NPW) of the cash flows associated with the high

efficiency motor?

2- Which of the motors should be selected when comparing their net present worth

(NPW)?

Answer 1

Step 1: Identification of Alternatives

Alternative 1: Standard Motor

Alternative 2: High Efficiency Motor

Step 2: Table showing Data for both the alternatives

Particulars	Standard Motor	High Efficiency Motor
Cost of Motor	$800.00	$1,200.00
Efficiency	87%	93%
Operating Hours	2500	2500
Cost of Energy Per KWH	$0.07	$0.07
Life (years)	12	12
Salvage at the end of Yr 12	$50.00	$100.00
MARR	8%	8%

1HP = 0.7457KW

Step 3: Calculations of Cash Flows from Both the Alternatives

Particulars	Standard Motor	High Efficiency Motor
Cash Outflows
Cost of Motor	$(800.00)	$(1,200.00)
Cash Inflows
Efficiency	87%	93%
Operating Hours	2500	2500
Output of motor in HP (units) (note1)	21750	23250
Output in KW (units) (A) (note 2)	16218.975	17337.525
Cost of Energy Per KWH (B)	$0.07	$0.07
Annual Revenue ((Year 1-12 years) (A)*(B)	$1,135.33	$1,213.63
Salvage at the end of (Year-12)	$50.00	$100.00

Notes:

1. Output of 10-HP Motor = Efficiency x Operating Hours x 10HP

2. Output in KW = Output in HP * 0.7457

Step 4: Calculation of Net Present Value associated with High Efficiency Motor

NPV= Present Value of Cash Inflows - Present Value of Cash Outflows

Particulars	High Efficiency Motor	Period	PVF @8%	Present Value
Cash Outflows
Cost of Motor	$(1,200.00)	0	1	$(1,200.00)
Cash Inflows
Annual Revenue	$1,213.63	1-12	7.536	$9,145.89
Salvage at the end of year 12	$100.00	12	0.397	$39.70
NPV				$7,985.59

Step 5: Calculation of Net Present Value associated with Standard Motor

Particulars	Standard Motor	Period	PVF @8%	Present Value
Cash Outflows
Cost of Motor	$(800.00)	0	1	$(800.00)
Cash Inflows
Annual Revenue ((Year 1-12 years)	$1,135.33	1-12	7.536	$8,555.83
Salvage at the end of (Year-12)	$50.00	12	0.397	$19.85
NPV				$7,775.68

Part a)

Net present value (NPV) of the cash flows associated with the High efficiency motor = $7,985.59

Part b)

Net present value (NPV) of the cash flows associated with the Standard motor = $7,775.68

Net present value (NPV) of the cash flows associated with the High efficiency motor = $7,985.59

Decision: Since the NPV of High Efficiency motor is higher as compared to standard Motor, we should select Option 2 as it provides more Benefits