An oil company is considering changing the size of a small pump that currently is in operation in an oil field. If the current pump is kept, it will extract 50% of the known crude oil reserve in the first year of operation and the remaining 50% in the second year. A pump larger than the current pump will cost $1.6 million, but it will extract 100% of the known reserve in the first year. The total oil revenues over the two years are the same for both pumps: $20 million. The advantage of the large pump is that it allows 50% of the revenue to be realized a year earlier than the small pump. The two options are summarized as follows: Item current pump Larger Pump Investment, year 0 $0 $1.6 millionRevenue, year 1 $10 million $20 millionRevenue, year 2 $10 million $0If the firm's MARR is known to be 20%, what do you recommend, according to the IRR criterion?
An oil company is considering changing the size of a small pump that currently is in operation in an oil field. If the current pump is kept, it will extract 50% of the known crude oil reserve in the first year of operation and the remaining 50% in the second year. A pump larger than the current pump will cost $1.6 million, but it will extract 100% of the known reserve in the first year. The total oil revenues over the two years are the same for both pumps: $20 million. The advantage of the large pump is that it allows 50% of the revenue to be realized a year earlier than the small pump. The two options are summarized as follows:
Item current pump Larger Pump
Investment, year 0 $0 $1.6 million
Revenue, year 1 $10 million $20 million
Revenue, year 2 $10 million $0
If the firm's MARR is known to be 20%, what do you recommend, according to the
Trending now
This is a popular solution!
Step by step
Solved in 3 steps with 3 images
