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The

placement of a new surface would reduce the annual maintenance cost to $500 per year for

the first 5 years and to $1000 per year for the next 5 years. After 10 years the annual

maintenance would again be $2000. If maintenance costs are the only saving, what investment

can be justified for the new surface? Assume interest at 4%.

Maximum investment = Present Worth of Benefits

= $1,000 (P/A, 4%, 10) + $500 (P/A, 4%, 5)

= $1,000 (8.111) + $500 (4.452)

= $10,337

2. IBP Inc. is considering establishing a new machine to automate a meatpacking process. The

machine will save $50,000 in labor annually. The machine can be purchased for $200,000

today and will be used for 10 years. It has a salvage value of $10,000 at the end of its useful

life. The new machine will require an annual maintenance cost of $9000. The corporation has

a minimum rate of return of 10%. Do you recommend automating the process?

The objective is to determine if the Net Present Worth is non-negative.

NPW of Benefits = $50,000 (P/A, 10%, 10) + $10,000 (P/F, 10%, 10)

= $50,000 (6.145) + $10,000 (0.3855)

= $311,105

PW of Costs = $200,000 + $9,000 (P/A, 10%, 10)

= $200,000 + $9,000 (6.145)

= $255,305

NPW = $311,105 – $255,305 = $55,800

Since NPW is positive, the process should be automated.

3. Two different companies are offering a punch press for sale. Company A charges $250,000 to

deliver and install the device. Company A has estimated that the machine will have

maintenance and operating costs of $4000 a year and will provide an annual benefit of

$89,000. Company B charges $205,000 to deliver and install the device. Company B has

estimated maintenance and operating costs of the press at $4300 a year, with an annual benefit

of $86,000. Both machines will last 5 years and can be sold for $15,000 for the scrap metal.

Use an interest rate of 12%. Which machine should your company buy?

Machine A

NPW =−First Cost + Annual Benefit (P/A,12%,5) – Maintenance & Operating Costs

(P/A,12%,5) + Salvage Value (P/F, 12%, 5)

= −$250,000 + $89,000 (3.605) – $4,000 (3.605) + $15,000 (0.5674) = $64,936

Machine B

NPW =−First Cost + Annual Benefit (P/A,12%,5) – Maintenance & Operating Costs

(P/A,12%,5) + Salvage Value (P/F, 12%, 5)

= −$205,000 + $86,000 (3.605) − $4,300 (3.605) + $15,000 (0.5674)

= $98,040

Choose Machine B because it has a greater NPW.

4. A battery manufacturing plant has been ordered to cease discharging acidic waste liquids

containing mercury into the city sewer system. As a result, the firm must now adjust the pH

and remove the mercury from its waste liquids. Three firms have provided quotations on the

necessary equipment. An analysis of the quotations provided the following table of costs.

If the installation can be expected to last 20 years and money is worth 7%, which equipment

should be purchased?

Since the necessary waste treatment and mercury recovery is classed as “Fixed Output,”

choose the alternative with the least Present Worth of Cost.

Foxhill

PW of Cost = $35,000 + ($8,000 − $2,000) (P/A, 7%, 20) − $20,000 (P/F, 7%, 20)

= $35,000 + $6,000 (10.594) − $20,000 (0.2584)

= $93,396

Quicksilver

PW of Cost = $40,000 + ($7,000 − $2,200) (P/A, 7%, 20)

= $40,000 + $4,800 (10.594)

= $90,851

Almeden

PW of Cost = $100,000 + ($2,000 − $3,500) (P/A, 7%, 20)

= $100,000 − $1,500 (10.594)

= $84,109

Select the Almaden bid.

5. A new tennis court complex is planned. Each of two alternatives will last 18 years, and the

interest rate is 7%. Use present worth analysis to determine which should be selected.

Contributed by D. P. Loucks, Cornell University

Here minimize cost so choose the alternative having the least cost. To write as a single

equation subtract the two individual equations and call it ∆PWC. Then if ∆PWC > 0 choose

the second and if ∆PWC < 0 choose the first.

PWCA = 500,000 + 25,000 (P/A, 7%, 18)

= $751,475 PWCB

= 640,000 + 10,000 (P/A, 7%, 18) = $740,590

∆PWC = PWCA – PWCB

= –140,000 + 15,000 (P/A, 7%, 18)

= $10,885 > 0

so choose option B.

6. Use an 8-year analysis period and a 10% interest rate to determine which alternative should

be selected:

NPW of 8 years of alternate A= $1,800 (P/A, 10%, 8) − $5,300 − $5,300 (P/F, 10%, 4)

= $1,800 (5.335) − $5,300 − $5,300 (0.6830)

= $683.10

NPW of 8 years of alternate B= $2,100 (P/A, 10%, 8) − $10,700

= $2,100 (5.335) − $10,700

= $503.50

Select Alternate A.

improvement program. The alternatives are:

The salvage value at the end of the useful life of each alternative is zero. At the end of 10

years, Alternative A could be replaced with another A with identical cost and benefits. The

maximum attractive rate of return is 6%. Which alternative should be selected?

Use a 20 year analysis period:

Alt. A NPW = $1,625(P/A, 6%, 20) − $10,000 − $10,000 (P/F, 6%, 10))

= $1,625(11.470) − $10,000 − $10,000 (0.5584)

= $3,055

Alt. B NPW = $1,530 (P/A, 6%, 20) − $15,000

= $1,530(11.470) − $15,000

= $2,549

Alt. C NPW = $1,890(P/A, 6%, 20) − $20,000

= $1,890(11.470) − $20,000

= $1,678

Choose Alternative A.

8. The local botanical society wants to ensure that the gardens in the town park are properly

cared for. The group recently spent $100,000 to plant the gardens. The members want to set

up a perpetual fund to provide $100,000 for future replantings of the gardens every 10 years.

If interest is 5%, how much money would be needed to forever pay the cost of replanting?

A = $100,000 (A/F, 5%, 10) = $100,000 (0.0795) = $7,950

For an infinite series,

P = A/i = $7,950/0.05 = $159,000

9. A trust fund is to be established for three purposes: (1) to provide $750,000 for the

construction and $250,000 for the initial equipment of a small engineering laboratory; (2) to

pay the $150,000 per year laboratory operating cost; and (3) to pay for $100,000 of

replacement equipment every 4 years, beginning 4 years from now. At 6% interest, how

much money is required in the trust fund to provide for the laboratory and equipment and its

perpetual operation and equipment replacement?

The trust fund has three components:

(1) P = $1 million

(2) For n = ∞ P= A/i = $150,000/0.06 = $2.5 million

(3) $100,000 every 4 years: First compute equivalent A. Solving one portion of the

perpetual series for A:

A= $100,000 (A/F, 6%, 4) = $100,000 (0.2286) = $22,860

P= A/i = $22,860/0.06 = $381,000

Required money in trust fund

= $1 million + $2.5 million + $381,000 = $3,881 million

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