Question

As power supplies in Adelaide are under threat, you are tasked with the investigation of the costs, from various providers, associated with the installation of new hydrogen power stations within the Adelaide metropolitan area. There are currently three designs that offer a suitable solution. The three choices that you have identified have the following characteristics, with values represented in millions of dollars: More Power (MP) AP Systems (APS) Hydrogen Applications (HA) Initial Outlay (IO) $2,000 $5,000 $7,000 Annual Yearly Cash Flow from operations $500 $800 $1,200 Life of system 6 years 11 years 9 years A flat rate of 8% is estimated as the risk for all of these projects. Assuming that the government (the eventual buyer of these devices) is not capitally constrained, provide detailed calculations indicating which system you would advise the government to purchase (round to whole dollar values)

Answer 1

Given data:

	MP	APS	HA
Initial Outlay	$2000	$5000	$7000
Annual CFO	$500	$800	$1200
Life	6 yrs	11 yrs	9 yrs
Rate	8%	8%	8%

Calculation for decision making:

Present value of annual cash flow= Annual CFO* [{1-(1+rate)^-n}/r]

MP= 500* [{1-(1+8%)^-6}/8%] =$2311.44

APS= 5000* [{1-(1+8%)^-11}/8%] = $5711.17

HA= 7000* [{1-(1+8%)^-9}/8%] = $7496.27

Net Present Value= Present value of CFO- Inital Outlay (The highest NPV should be invested by the government)

MP= $2311.44- $2000= $ 311.44

APS= $ 5711.17- $ 5000 = $711.17

HA= $ 7496.27-$7000= $496.27

Therefore, the government should invest in APS.