Question

A company is considering whether to purchase a new mini tractor for moving furniture. There are two types of mini tractors.

Tractor Alpha would last for five years and has NPV of 22540.

Tractor Beta would last for seven years and has NPV of 26390.

Assume the discount rate for the company is 10%.

Answer the following questions 14(a) to 14(c). Note: For all the calculation questions, you are only allowed to write the numerical answer you calculated for the question, please DO NOT add $, %, dollars, million, thousand, percent, space, etc. in your answers.

14(a): What’s the equivalent annual value (EAV) of Tractor Alpha? (Round your final answer to the nearest dollar if needed)

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14(b): What’s the EAV of Tractor Beta? (Round your final answer to the nearest dollar if needed)

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14(c): Which type of tractor should the company purchase, why?

Answer 1

14.a. The equivalent annual value of Tractor Alpha is computed as shown below:

= NPV / Present value annuity factor of 10% of 5 years

Present value annuity factor of 10% of 5 years is computed as follows:

= [ (1 – 1 / (1 + r)ⁿ) / r ]

= [ (1 - 1 / (1 + 0.10)⁵ ) / 0.10 ]

= 3.790786769

So, the EAV will be as follows:

= 22,540 / 3.790786769

= 5,946 Approximately

14.b. The equivalent annual value of Tractor Beta is computed as shown below:

= NPV / Present value annuity factor of 10% of 7 years

Present value annuity factor of 10% of 7 years is computed as follows:

= [ (1 – 1 / (1 + r)ⁿ) / r ]

= [ (1 - 1 / (1 + 0.10)⁷ ) / 0.10 ]

= 4.868418818

So, the EAV will be as follows:

= 26,390 / 4.868418818

= 5,421 Approximately

14.c. Since the EAV of Tractor Alpha is greater than the EAV of tractor Beta, hence tractor Alpha shall be purchased.

Please ask in case of any query.