Question

Lesco chemical is considering two processes for making a cationic polymer. Process A has a first cost of $100,000 and an AOC of $60,000 per year. Process B has a first cost of $165,000. If both processes will be adequate for 4 years and the rate of return on the increment between the alternatives is 20%, what is the amount of the AOC for process B?

Answer 1

Process A:

Initial cost: $100,000

AOC: $ 60,000

Process:B

Initial Cost: $ 165000

Let AOC be X

Incremental Initial Investment of Project B = 165,000 -100,000 =$65,000

Incremental AOC: 60,000 -X

Present value of incremental AOC = (60,000-X)* PV of Annuity of 4 years at 20% i.e. 2.5887

Present Value of AOC incremental =$155322 - 2.5887 X

Now, as per Probelm , equation is as follows:

Incremntal Initial investment = Present value of Incremntal AOC in 4 years

$65,000 = $155,322 -2.5887 X

Therefore, value of X = $34,891

AOC of Process B = $ 34,891