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Time Value of Money
1
. A plant engineer is considering two machines to purchase:
Item Model A Model B
Initial Cost $8,000 $9,000
Annual Savings $1,750 $2,000
Annual Maintenance $200 $350
Expected Life 8 years 8 years
Salvage Value $800 $900
The firm's MARR is 10%. On the basis of the IRR criterion, which machine is the better choice?
Given
MARR
Initial cost
Annual savings
Annual Maintenance
Expected life
Salvage value
Model A
year 1year 2year 3year 4year 5year 6year 7
Initial cost-8000
Annual savings175017501750175017501750
Annual Maintenance-200-200-200-200-200-200
Salvage value
Net cash flow-8000155015501550155015501550
Model B
year 1year 2year 3year 4year 5year 6year 7
Initial cost-9000
Annual savings200020002000200020002000
Annual Maintenance-350-350-350-350-350-350
Salvage value
Net cash flow-9000165016501650165016501650
Given MARR = 10%, we accept project A (IRR 10%) and reject project B (IRR 8%)
22
Given: Purchasing cost of Tesla Model = $35,000
Downpayment = $5000
Monthly Repayment = $ 775 for 48 Months
Find ARR
Amount of Repayments = $775 * 48 37200
Down Payment5000
total value42200
Profit on sale=9200
ARR =(Profit/Initial cost)/Number of years(9200/35000)/2
13%
3 Period Net Cash Flow
n A B C D
0 $45,000 -$15,000 -$12,500 $10,000
1 -$15,000 -$15,000 $5,000 -$9,000
2 -$15,000 -$15,000 $5,000 -$11,500
3 -$20,000 $60,000 $3,000 $10,000
a) Which of the projects represent simple investments?
b) Which of the projects represent nonsimple investments?
c) Compute the i* for each project.
d) Which of the projects has no rate of return?
a) A simple investment is an investment in which the initial cash flow is a negative value,
in addition, it has only one sign change in the net cash flow series.
Project C is a simple investment
b) A non simple investment is one where the cahs flow has more than one sign change,
ABCD
045000-15000-1250010000
1-15000-150005000-9000
2-15000-150005000-11500
3-200060000300010000
i*-19%15%2%14%
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