A European candy manufacturing plant manager must select a new irradiation system to ensure the safety of specific ingredients, while being economical. The two alternatives available have the following estimates:

Question

The company is in the 35% tax bracket and assumes classical straight line depreciation for alternative comparisons performed at an after-tax MARR of 6% per year. A salvage value of zero is used when depreciation is calculated; however, System B can be sold after 5 years for an estimated 10% of its first cost. System A has no anticipated salvage value. Determine which is more economical using an AW analysis worked by hand.

Answer 1

System A: Depreciation = 150,000/3 = $50,000

Years 1 to 3: TI = 60,000 – 50,000 = $10,000
Taxes = 10,000(0.35) = $3500
CFAT = 60,000 – 3500 = $56,500

AWA = –150,000(A/P,6%,3) + 56,500
= –150,000(0.37411) + 56,500
= $384
System B: Depreciation = 85,000/5 = $17,000

Years 1 to 5: TI = 20,000 – 17,000 = $3,000
Taxes = 3,000(0.35) = $1050
CFAT = 20,000 – 1050 = $18,950


For year 5 only, when B is sold for 10% of first cost:

DR = 85,000(0.10) = $8500
DR taxes = 8500(0.35) = $2975

AWB = –85,000(A/P,6%,5) + 18,950 + (8500 – 2975)(A/F,6%,5)
= –85,000(0.23740) + 18,950 + 5525(0.17740)
= -$249

Select system A