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Louie’s Leisure Products must choose between buying two machines with different lives
Louie’s Leisure Products must choose between buying two machines with different lives. Machines A and B are designed differently, but have identical capacity and do the same job. Machine A costs $1000,000 and lasts 5 years. It costs 500,000 in the first year and $400,000 per year to operate in year 2-5. Machine B costs $400,000 and lasts 2 years. It costs $300,000 per year to operate. a. (6 marks) Which machine should the company acquire? The opportunity cost of capital is 6%. b. (2 marks) If the revenues were given, could you choose one of the machines by comparing the Internal Rate of Returns (IRR) of the two alternatives? Why?
Expert Solution
1.
Equivalent Annual Cost of Machine A=(100000+500000/1.06+400000/1.06^2+400000/1.06^3+400000/1.06^4+400000/1.06^5)*6%/(1-1/1.06^5)=446135.526876
Equivalent Annual Cost of Machine B=400000*6%/(1-1/1.06^2)+300000=518174.757282
Choose Machine A
2.
No as they have different lives
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