Leonard, a company that manufactures explosion-proof motors, is considering two alternatives for ex­panding its international export capacity. Option 1 requires equipment purchases of $900,000 now and $560,000 two years from now, with annual M&O costs of $79,000 in years 1 through 10. Option 2 involves subcontracting some of the production at costs of $280,000 per year beginning now through the end of year 10. Neither option will have a sig­nificant salvage value. Use a present worth analysis to determine which option is more attractive at the company’s MARR of 20% per year.

What will be an ideal response?


PW1 = -900,000 – 560,000(P/F,20%,2) – 79,000(P/A,20%,10)
= -900,000 – 560,000(0.6944) – 79,000(4.1925)
= $-1,620,072

PW2 = -280,000 – 280,000(P/A,20%,10)
= -280,000 – 280,000(4.1925)
= $-1,453,900

Select option 2 - subcontracting

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