The secondary industrial robot on line 3 broke down again today. The production

Question

The secondary industrial robot on line 3 broke down again today. The production engineer got it back on line, but says it needs a major overhaul or replacing. Should we fix or replace it? Another analyst is getting quotes and other information about potential replacements, while you analyze the expected repair cash flows. Working with the production engineer, you estimate that the cost to repair will be $139,000 and that the remaining life of the machine would be about 3 years. The cost to maintain and operate the machine for those 3 years is expected to increase over time. The $ amounts below are the expected after-tax cash flows for the existing machine (including the overhaul cost), if it is repaired. Its replacement would have a longer expected life than 3 years. Therefore, you plan to evaluate fix versus replace using EAC (equivalent annual cost). The discount rate for the analysis is 12.1%. Assume 3 years is the "best life" for EAC evaluation of the existing machine. Enter your answer (the EAC) as a positive number, rounded to 2 places. Year 0 cash flow = -139,000 Year 1 cash flow = -74,000 Year 2 cash flow = -91,000 Year 3 cash flow = -103,000

Explanation / Answer

Present value of an annuity factor @ 12.1%.

EAC (Equvalent annual cost) = $350545.10/2.398 = $146182.27

Year Cash flow PVF@12.1% Present Value 0 139000 1 $139000 1 74000 0.892 $66012.48 2 91000 0.796 $72415.27 3 103000 0.710 $73117.34 NPV $350545.10

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