Question

You are looking at valuing two copiers. The first costs $4,000, has maintenance fees of $200/year for its 8 year life. The second costs $6000 and has maintenance fees of $100/year for its 12 year life. Assuming a (real) discount rate of 6%, which one is a better deal for your company?

Answer 1

Solution:

We can evaluate the machines on the basis of equivalent annual cost(EAC).EAC is the annual cost of owing,operating and maintaing an asset over its entire life.

EAC=(Asset Price/Annuity factor)+Annual maintenance cost

Annuity Factor=[1-1/(1+rate)^n]/rate

n=no. of years

Calculation of EAC of both machine

First Machine:

Annuity Factor=[1-1/(1+0.06)^8]/0.06

=6.2097

EAC of First Machine=$4000/6.2097+$200

=$844.15

Second Machine

Annuity Factor=[1-1/(1+.06)^12]/.06

=8.3838

EAC of Second Machine=$6000/8.3838+$100

=$815.67

Since the second machine has lower EAC,hence investment should be made in second machine.