Question

A factory is considering purchasing a lathe machine for the production. Each machine will cost $80,000 and have an operating and maintenance cost that of $20,000 each year. Assume the salvage value is $20,000 at the end of 6 years and the interest rate is 9%. What is the annual equivalent cost of owning and operating each machine?

Select one:

a. 35175

b. 25000

c. 44644

d. 55000

e. 40979

f. 31370

Answer 1

Since no depreciation has been mentioned we assume that the entire cost is depreciated at the beginning itself. Hence, the present value of the salvage value will be:

PV of salvage value = 20000/1.09^6 = 11925.3465.

Now, we annualize the buying cost and the present value of the salvage value Let the annualized cost be A.

80000 - 11925.3465 = A/1.09 + A/1.09^2 + ... +A/1.09^6

A = 15175.19.

Hence, the total annual equivalent cost will be = 15175 + 20000 = 35175 (Option A).