A mining company need to decide which of the equipment models to use in a project that will last for 4 years. The company required return on investment is 5%. Each model can be sold for a salvage value and replaced by an identical machine with the same cost and cash flow as many times as needed and at any given period. The purchasing cost, operational cost and salvage value of the two models as follows: • Model A costs $15,000 and requires annual operational cost of $2,000. The model operable for 2 years and at the end of the year 2, its estimated salvage value is $1,500 • Model B costs $30,000 and requires annual operational cost of $1,000. The model operable for 6 years and at the end of the year 4, its estimated salvage value is $2,500 Model A Model B -15,000 -30,000 1 -2,000 -1,000 2 -2,000 + 1,500 -1,000 -1,000 4 -1,000+ 2,500 Which model the company should use? (Select the correct statement) O Select Model A because it will save around $2,182 in present worth over the required service period O Select Model B because it will save around $1,613 in present worth over the required service period O Almost Both models have the same present worth over the required service period and the difference between is less than $20 Select Model B because it last for 4 years and the project life is 4 years while Model A life time is 2 years
A mining company need to decide which of the equipment models to use in a project that will last for 4 years. The company required return on investment is 5%. Each model can be sold for a salvage value and replaced by an identical machine with the same cost and cash flow as many times as needed and at any given period. The purchasing cost, operational cost and salvage value of the two models as follows: • Model A costs $15,000 and requires annual operational cost of $2,000. The model operable for 2 years and at the end of the year 2, its estimated salvage value is $1,500 • Model B costs $30,000 and requires annual operational cost of $1,000. The model operable for 6 years and at the end of the year 4, its estimated salvage value is $2,500 Model A Model B -15,000 -30,000 1 -2,000 -1,000 2 -2,000 + 1,500 -1,000 -1,000 4 -1,000+ 2,500 Which model the company should use? (Select the correct statement) O Select Model A because it will save around $2,182 in present worth over the required service period O Select Model B because it will save around $1,613 in present worth over the required service period O Almost Both models have the same present worth over the required service period and the difference between is less than $20 Select Model B because it last for 4 years and the project life is 4 years while Model A life time is 2 years
Chapter10: Capital Budgeting: Decision Criteria And Real Option
Section: Chapter Questions
Problem 14P
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Transcribed Image Text:A mining company need to decide which of the equipment models to use in a project that will last for 4 years. The company required return on investment is 5%.
Each model can be sold for a salvage value and replaced
period. The purchasing cost, operational cost and salvage value of the two models as follows:
an identical machine with the same cost and cash flow as many times as needed and at any given
• Model A costs $15,000 and requires annual operational cost of $2,000. The model operable for 2 years and at the end of the year 2, its estimated
salvage value is $1,500.
• Model B costs $30,000 and requires annual operational cost of $1,000. The model operable for 6 years and at the end of the year 4, its estimated
salvage value is $2,500.
Model A
Model B
-15,000
-30,000
1
-2,000
-1,000
2
-2,000 + 1,500
-1,000
3
-1.000
4
-1,000+ 2,500
Which model the company should use? (Select the correct statement)
O Select Model A because it will save around $2,182 in present worth over the required service period
O Select Model B because it will save around $1,613 in present worth over the required service period
O Almost Both models have the same present worth over the required service period and the difference between is less than $20
Select Model B because it last for 4 years and the project life is 4 years while Model A life time is 2 years
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