Question

A firm is must choose to buy the GSU-3300 or the UGA-3000. Both machines make the firm’s production process more efficient which in turn increases incremental cash flows. The GSU-3300 produces incremental cash flows of $25,761.00 per year for 8 years and costs $101,081.00. The UGA-3000 produces incremental cash flows of $29,426.00 per year for 9 years and cost $124,025.00. The firm’s WACC is 9.34%. What is the equivalent annual annuity of the GSU-3300? Assume that there are no taxes.

Answer 1

Equivalent Annual Annuity =r*(NPV)/1-(1+r)^(-n)

For GSU -3300 Cash inflows =$25,761 per year for 8 years(n) Initial outlay =$101,081 WACC(r) =9.34%

NPV = Total PV of inflows-Initial outflow

PV of inflows =$25,761*PVAF for 8 years at 9.34% PVAF =1-(1+r)^(-n)/r r=9.34% n= 8 years

1-(1+.0934)^(-8)/.0934 =5.4655

Total PV of Inflows =$25,761*5.4655=$140,796.745 NPV =$140,796.75-$101,081=$39,715.75

Equivalent annual Annuity of GSU-3300 =.0934*39,715.75/1-(1.0934)^(-8)=$3709.45105/.5104833777=$7,266.55