You are evaluating two different silicon wafer milling machines. The Techron I c

Question

You are evaluating two different silicon wafer milling machines. The Techron I costs $264,000, has a three-year life, and has pretax operating costs of $71,000 per year. The Techron II costs $460,000, has a five-year life, and has pretax operating costs of $44,000 per year. For both milling machines, use straight-line depreciation to zero over the project

You are evaluating two different silicon wafer milling machines. The Techron I costs $264,000, has a three-year life, and has pretax operating costs of $71,000 per year. The Techron II costs $460,000, has a five-year life, and has pretax operating costs of $44,000 per year. For both milling machines, use straight-line depreciation to zero over the project

Explanation / Answer

Hi,

Please find the detailed answer as follows:

Step 1: Calculate NPV of both the Machines:

Techron 1:

Initial Investment = -264000

Annual Operating Cost After Adjustment for Depreciation = (-71000 - 264000/3)*(1-.34) + 264000/3 = -16940

NPV = -264000 - 16940*PVIFA(8%,3 Years) + 48000*PVIF(8%,3Years) = -264000 - 16940*2.5771 + 48000*(1-.34)*.7938 = - 282508.49

Techron 2:

Initial Investment = -460000

Annual Operating Cost After Adjustment for Depreciation = (-44000 - 460000/5)*(1-.34) + 460000/5 = 2240

NPV = -460000 + 2240*PVIFA(8%,5 Years) + 48000*(1-.34)*PVIF(8%,5Years) = -460000 + 2240*3.9927 + 48000*(1-.34)*.6806 = -429494.94

Step 2: Calculate EAC

EAC (Techron 1) = NPV/PVIFA(8%,3 Years) = - 282508.49/2.5771 = -109626.89

EAC (Techron 2) = NPV/PVIFA(8%,5 Years) = -429494.94/3.9927 = -107570.05

Techron 2 should be preferred as it has lower EAC.

Thanks.

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