Engineering Economic Analysis

422 REPLACEMENTANALYSIS

Total Marginal Costs Due to Ownership

l'lotice that the total marginal cost for each year is thu,chdiffereIltfrom th~ pJ.~ginalcost for the

~~eass~t on a before...t~basis. 1:1 _ '~

Mter- Tax Cash Flows for the Defender

Finding the after-tax cash flowsfor the challenger asset is straightforward.Here we use the

standard after-tax cash flow table and method developed in Chapter 12 to incorporate all

the relevant tax effects, which include before-tax cash flows,depreciation, taxes, and gains

and losses at disposal. After obtaining the after-tax cash flows for challenger, it is a simple

task to calculatethe EUACoverthe challenger'slife..

After-Tax Cash Flows for the Defender

Finding the after-tax cash flows for the defender is not straightforward.The main compli-

cating factor is that the defender is an asset that has been previously placed in service. As

such, depreciation has been taken on the cost basis (amount being depreciated) up to the

present, which changes the book value of the asset. Thus, when looking at the first cost of

the defender on an after-tax basis (value at time zero), we must consider the current market

(salvage) value that can be obtained for the asset, as well as any depreciation recapture or

losses at disposal presently associated with the defender.

We have already suggested the use of theopportunity costperspective for assigning

a first cost to both the defender and challenger. For the challenger, this first cost will be

the after-tax cash flow at time zero. Assuming use of equity financing, the first cost of

the challenger is the purchase price plus installation cost. However, for the defender the

after-tax first cost will be made up of theforgone market valueof the asset at the present

time plus anyforgone gains or lossesassociated with keeping the asset. To develop the

after-tax cash flow of the defender at time zero, it is often convenient to use the d~fender

sign change procedure, described next.

Defender Sign Change Procedure

Thedefendersignchangeprocedureallowsusto findtheafter-taxcashflow(ATCF)for the

defenderasset in after-taxdefender~hallengercomparisons.Tofindthe time zeroATCF

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Forgone Forgone Marginal Cost in Loss in After-Tax Total

Gain/Loss After-TaxInterest Year n Due to O&M Market Value Marginal Cost

Year,n in Year n in Year n ..., and Insurance in Yearn in Yearn

(^1) $ (^0) $1500 $4200 $6440 $12,140
(^2560108045005000) 11,140
(^3560780) ". 4800 (^4280) 10,420
(^428054060003560) 10,380
(^528036072002840) 10,120
(^6) --1120 (^240) 8400. (^720) 8,240
(^7) .."..840 (^1809600360) 9,300
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