Q: A Firm intends to invest some capital for a period of 15 years; the Firm's Management considers three Options, each consisting of purchasing a
A Firm intends to invest some capital for a period of 15 years; the Firm's Management considers three Options, each consisting of purchasing a machinery of a specific brand, different for each Option, which would produce benefits throughout the investment period and have its own useful life. The Management assumes that if during the investment period replacement is necessary, it will be made with identical machinery. The characteristics of the three opportunities are: Investment ($) Benefits ($/yr) G on Benefits (($/yr) O&M ($/yr) G on O&M ($/yr) Salvage Value ($) Useful Life (yrs) Option A Option B 100,000 35,000 600 4,500 300 10,000 5 200,000 45,000 1,000 7,000 800 Option C 10 300,000 50,000 -1,000 7,000 -500 15,000 20,000 30,000 value at mid of useful life 15 QUESTIONS: (show the calculations in support of your answers) 1. Calculate the cost of capital that would make the worth of each Option null. 2. Calculate the cost of capital that would make: NPW A = NPWB NPW C = NPW A NPW C = NPW B 3. If your cost of capital is 8% and your decision criterion is to maximize NPW, which option would you choose? Would your decision be the same if your decision criterion is maximizing the ROI?
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