Engineering Economic Analysis

"I

426 REPLACEMENTANALYSIS

Solve Example 13-12 by computing the rate of return on the difference between alternatives. In

Example 13-12,the two alternativeswere "keep the SK-30" and "buy an EL-40." The difference

between the alternatives would be:

Buy an EL-40

AlternativeB

Rather than

minus

Keep the SK-30

AlternativeA

SOLUTION;

The after-tax cash flow for the differencebetween the alternativesmay be computed as follows:

The rate of return on the differencebetween the alternativesis computed as follows:

PW of cost=PW of benefit

646 =64(P/A, i,2) +200(P/A, i, 2)(P/F, i,2) +382(P/F, i, 5)

Tryi= 9.%:

646 ~ 64(1.759) + 200(1.759)(0.8417) + 382(0.6499)

~ 656.9 ,f

Tryi=10%:

646 ~'64(1.736) + 200(1.736)(0.8264) + 382(0.6209)

~ 635.2

.

(

656.9- 646.0

The rate of return IRR- 9% + (0.10- 0.09) 656.9_ 635.2)=9.5%

The rate of return is greaterthan the 8% after-taxMARR. The increment of investmentis desirable.

iBuythe EL-40 model.

Example 13-13illustratesthe use of the incrementalIRR methodin defender-ehallenger

comparisonson an after-taxbasis.In the examplethis analysismethodis appropriatebecause

the life of the SK-30 (defender)is equivalentto the economic life of the EL-40 (challenger).

Year A" B B-A

0 -$404 -$1050 -$646

(^1) +83 +147 +64
(^2) +83 +147 +64
3 -53 +147 +200
4 -53 +147 +200
5 -53 +329 +382