You are the head of Company AAA, which manufactures biomedical products. You are

Question

You are the head of Company AAA, which manufactures biomedical products. You are currently using a two-year-old system for the mixing, granulation and drying processes. They are considering to replace the entire system with a new technology which costs $80,000. It offers reduced annual operating and maintenance costs. As the head, you need to decide if and when you should replace the old system. The old system could be currently sold to an external buyer for a price of $50,000. The market value at the end of year 5 is estimated to be $5,000. It is assumed that the system follows straight-line depreciation. The new system also follows a straight-line depreciation and has a market value of $45,000 at the end of five years of usage. The annual O&M; costs for each system are given below. AAA uses a planning horizon of 5 years and a hurdle rate of 10%. When is the best time to replace the old system with the new system? What is the EUAC of the old system over the time of usage you determined in question 1? What is the economic life of the new system? What is the EUAC for the new system over the time of usage determined in question 1? What is the EUAC of the production system for the entire 5-year planning horizon when putting your preferred plan into action? Finally, the firm also has another offer to replace the old system immediately and handing over the mixing, granulation and drying processes to vendor BBB at a cost of $20,000 annually and $1.55 for every tablet being produced. AAA's variable cost structure for production of tablets is as follows. The variable costs are assumed to be the same for either the new or the old system. (Disregard this information when answering 1-5 above.) What is the breakeven point for how many tablets must be produced so that outsourcing the mixing, granulation and drying processes to vendor BBB becomes the preferred option? From Homework 5, it was seen that AAA needed to produce 3,500 tablets per shift. Assuming 25 working days per month and one shift per day, should AAA sign the contract with BBB?

Explanation / Answer

1. Best time to replace is 2 years

2. EUAC is $4,856

3. 5 years

4. $4,865

5. $6,854

6. 4000

7. Yes

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