Question

1 2 3 all a firm that purchases electricity from the local utility for $350,000 per year is considering installing a steam generator at a cost of $280,000. the cost of operating this generator would be $260,000 per year, and the generator will last for five years. if the firm buys the generator, it does not need to purchase any electricity from the local utility. the cost of capital is 10%. for the local utility option, consider five years of electricity purchases. for the generator option, assume immediate installation, with purchase and operating costs in the current year and operating costs continuing for the next four years. assume payments under both options at the start of each year (i.e., immediate, one year from now,..., four years from now). what is the net present value of the more attractive choice

Answer 1

The more attractive choice is the choice that has less present value which is Using steam generator valued at $1, 364,165.02

Given data;

cost of electricity per year: = $350,000

cost of installing a steam generator = $280,000

generator operation cost per year = $260,000

generator will last for = 5 years

cost of capital for local utility option = 10%

purchasing electricity from the local utility

cost of electricity per year: = $350,000

cost of capital for local utility option = 10%

Present value = - 350,000 - 350,000 / 1.10 - 350,000 / 1.10^2 - 350,000 / 1.10^3 - 350,000 / 1.10^4

Present value = - 1,453,452.906

Present value = - 1,453,452.91

Using steam generator

cost of installing a steam generator = $280,000

generator operation cost per year = $260,000

Present value = - 280,000 - 260,000 - 260,000 / 1.10 - 260,000 / 1.10^2 - 260,000 / 1.10^3 - 260,000 / 1.10^4

Present value = - 1, 364,165.016

Present value = - $1, 364,165.02

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