## Answers

1) | Net installation cost (New-Old) = 24000-18000 = | 6000 |

Net annual operating cost (New-Old) = 8200-7000 = | 1200 | |

Net yearly maintenance costs (New-Old) = 1500-500 = | 1000 | |

The annual net savings = 1200+1000 = | 2200 | |

2) | IRR is that discount rate for which NPV = 0. | |

Hence, 0 = -6000+2200*PVIFA(r,20) | ||

where r = IRR. | ||

Solving for r | ||

PVIFA(r,20) = 6000/2200 = 2.7273 | ||

PVIFA for 37% = 2.6977 | ||

PVIFA for 36% = 2.7718 | ||

r (IRR) = 36+(2.7718-2.7273)/(2.7718-2.6977) = | 36.60% | |

AS THE IRR OF THE NET CASH FLOWS (INCREMENTAL | ||

CASH FLOWS) IS GREATER THAN THE MARR OF 15%, | ||

THE ALTERNATIVE HAVING THE HIGHER INITIAL | ||

INVESTMENT IS TO BE SELECTED. | ||

3) | The two alternatives would be even if the NPV of the | |

differential cash flows is equal to 0, with the discount | ||

rate of 12% (that is IRR should be 12%). | ||

As the annual savings is not changed, the initial cost | ||

has to be changed, such that NPV = 0 with 12% discount | ||

rate. | ||

For this the difference in initial investment should be | ||

equal to the PV of the net annual savings = 2200*(1.12^20-1)/(0.12*1.12^20) = | 16433 | |

The initial cost of the used generator should be 24000-16433 = | $ 7,567 |

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