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 $214,000, has a 2-year life, and has pretax operating costs of $31,000 per year. The Techron II costs $308,000, has a 5-year life, and has pretax operating costs of $23,000 per year. For both milling machines, use straight-line depreciation to zero over the project's life and assume a salvage value of $20,000. If your tax rate is 32 percent and your discount rate is 12 percent. The Techron I has an EAC of $?, while the Techron II has an EAC of $?. You prefer Techron I or II? (Round your answer to 2 decimal places).

Explanation / Answer

for both cases

after tax salvage value = 20000 * (1-0.32) = 13600

OCF of TECHRON 1

OCF = -31000 * (1-0.32) + 0.32 * (214000/2) = 13160

NPV = -214000 + 13160/1.12 + 13160/1.12^2 + 13600/1.12^2 = -180917.09

EAC = -180917.09/PVIFA(12%,2) = -107045.2

OCF and NPV of TECHRON 2

OCF = -23000 * (1-0.32) + (308000/5) * 0.32 = 4072

NPV = -308000 + 4072/1.12 + 4072/1.12^2 + 4072/1.12^3 + 4072/1.12^4 + 4072/1.12^5 + 13600/1.12^5 = -285604.35

EAC = -285604.35 / PVIFA(12%,5) = -79228.90

The two milling machines have unequal lives, so they can only be compared by expressing both on an equivalent annual basis, which is what the EAC method does. Thus, you prefer the Techron II because it has the lower (less negative) annual cost.

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