Engineering area

Subject: Economic Engineering

Task No. 9

Presented by:
Eduardo Valdez 1095178
Aleangi Andujar 1077415
Ricardo Urena 1092773

Tutor: Freddy Lara Felipe

Date:
October 11, 2020
Contents
General objective...........................................................................1
Specific objectives..........................................................................1
Type of participation:.....................................................................1
Structure:.....................................................................................1
Student actions:............................................................................1
Activity start date..........................................................................1
Activity end date............................................................................1
Work regulations:..........................................................................1
Assessment:..................................................................................2
I. Answer the following reflection questions...................................3
a) What does the concept of challenger mean in replacement
analysis?....................................................................................3
b) When doing a replacement study with an unspecified planning
horizon, list three assumptions inherent in the analysis of the annual
value of the defender and challenger.............................................3
c) What is the capital recovery equation in replacement analysis?.....3
d) What is the economic useful life in replacement analysis?..........3
II. Solve the following problems.................................................4
Ejercicio 1 -.......Determine the economic useful life of an asset whose
initial cost is $800,000 and its annual operating costs (AOC) and
salvage value (VR) are as detailed below. Assume i=11%.................4
Ejercicio 2 -...The initial cost of a bridge expected to last 100 years is
$900 million. Maintenance can be done at intervals of one, two, three
or four years, but the longer it takes, the greater the cost.
Maintenance costs are estimated at $50 million, $88 million, $135
million and $160 million, for intervals of one, two, three and four
years respectively. What interval should be scheduled for maintenance
to minimize the total equivalent annual cost? The interest rate is 11%
per year. 4
Ejercicio 3 -.......An engineer analyzes two robots to reduce costs on a
production line. Robot A would have an initial cost of $160,000,
annual maintenance and operation (M&O) cost of $50,000, and
salvage values of $100,000, $60,000, and $30,000 after years 1, 2,
and 3, respectively. Robot B would have an initial cost of $175,000,
annual M&O cost of $30,000, and salvage values of $100,000,
$60,000, and $25,000 after 1, 2, and 3 years, respectively. Which
robot should be selected if a three-year study period is specified, with
an interest rate of 15% per year and replacement after one year is not
an option? 5
Ejercicio 4 -...A company bought a machine 4 years ago for $60,000.
Such machine is expected to have the commercial values and annual
operating costs indicated below for the remainder of its maximum
useful life of three years. It could sell now with a market value of
$8,000. 5
Ejercicio 5 -When looking for ways to lower costs and increase profits
(to drive up the company's stock price), an industrial engineer at the
company determined that the equivalent annual value of an existing
machine over the remainder of its four-year useful life it would be $
−100,000 per year. The engineer also determined that a replacement
with more advanced features would have an VA of $−110,000 per
year if kept for two years or less, $−110,000 if kept for three to four
years, and $−120, 000 if kept for five to 10 years. If the engineer
uses a three-year study period and an interest rate of 12% per year,
she should recommend that the existing machine:...........................7
Ejercicio 6 -.........An electric power generator in a hospital mechanical
room had an initial cost of $1.5 million and can be used for a
maximum of 8 years. Its surrender value, which decreases 12% per
year, is described by the equation VR = 1,500,000(1−0.12) n , where
n is the number of years after purchase. The operating cost of the
generator will be $500,000 in the first year and will have increases of
$50,000 each year. With an interest rate of 9% per year, what is the
economic life and the amount of associated VA?..............................7
Ejercicio 7 -.............An engineer determined the VUE of a new piece of
equipment and recorded the calculations shown below. (Note that the
numbers are annual values associated with different years of keeping
the equipment; that is, if the equipment is kept for, say, three years,
the PV [years 1 to 3] of the initial cost is $32,169, the PV The
operating cost is $51,000 and the salvage value is $6,042.) The
engineer forgot to capture the PV of the salvage value for two years of
conservation. From the available information, obtain the following: a)
The interest rate used in the VUE calculations. b) The salvage value
after two years if the total VA of the equipment in year 2 was
$78,762. Use the interest rate determined in part a)........................9
General objective

Analyze situations in which decisions have to be made to replace an

asset before or after exhausting its economic useful life.
Specific objectives

a) Know and be able to apply the concepts and terminologies used in

replacement analysis.

b) Determine the economic useful life (EUV) that minimizes the

annual value (AV) of an asset to be replaced.

c) Do replacement studies between a defender and a challenger

Type of participation:

Individual and group

Structure:

The members of each work group will be able to interact through the
doubt forum and in-person meetings.

Student actions:

(i) Access the virtual classroom (ii) Read the instructions corresponding
to this activity; (iii) Study the online teaching resources and those
recommended by the tutor; (iv) discuss with your group mates the
reflection questions and the problems to be solved in the task (v) write
the task report in the indicated format and (vi) each one must upload a
file of the task on the platform .

Activity start date

September 30, 2020

Activity end date

October 6, 2020, at 11:55 p.m.

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Work regulations:

(i) The participation of each student is mandatory; (ii) Submissions are

not accepted after deadlines and deadlines; (iii) the file with the
assignment must be sent in Word, Excel or pdf format; (iv) The name of
the sent file will have the following format Task1_initials of the first and
last name.

Assessment:

The evaluation criteria for this activity will be based on: (a) The effective
participation of the student; (b) completion of each stage of the task
according to the instructions; (c) Respect for spelling, syntax and
coherence of the work (d) Originality: avoid copying from other groups
and copypage.

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I. Answer the following reflection questions
a) What does the concept of challenger mean in replacement
analysis?
Each of the assets considered as possible replacements for the defender.
The challenger will be the ´´best´´ when chosen as the best
replacement option for the defender.
b) When doing a replacement study with an unspecified planning
horizon, list three assumptions inherent in the analysis of the
annual value of the defender and challenger.
The challenger is the best challenger available now and in the future to
replace the defender. When this challenger replaces the defender (now
or later), this will repeat itself in subsequent life cycles.
The services provided will be necessary for an indefinite period of time.
The estimated costs of each challenger life cycle will be the same as
those of the first cycle.
c) What is the capital recovery equation in replacement analysis?
Capital recovery = -P (Alp,i,n) + S (AlF,i,n)

d) What is the economic useful life in replacement analysis?

It is the number of years in which the equivalent annual value (AV) has
a minimum value.

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II. Solve the following problems
Ejercicio 1 - Determine the economic useful life of an asset whose
initial cost is $800,000 and its annual operating costs (AOC) and salvage
value (VR) are as detailed below. Assume i=11%
Years CAO in $ VR in $

1 250,000 640,000

2 300,000 480,000

3 350,000 220,000

4 400,000 100,000

5 450,000 0

VA1 = -800,000(A/P) 11%,1 – 250,000 + 640,000(A/F) 11%,1 = -$498,000

VA2= -800,000(A/P) 11%,2 + 480,000(A/F) 11%,2 – [250,000(P/F) 11%,1 +

300,000(P/F) 11%,2 ](A /F) 11%,2 = -$513,355.45

VA3= -800,000(A/P) 11%,3 + 220,000(A/F) 11%,3 – [250,000(P/F) 11%,1 +

300,000(P/F) 11%,2 + 350,000( P/F) 11%,3 ](A/F) 11%,4 = -$558,071.21

VA4= -800,000(A/P) 11%,4 + 100,000(A/F) 11%,4 – [250,000(P/F) 11%,1 +

300,000(P/F) 11%,2 + 350,000( P/F) 11%,3 + 400,000(P/F) 11%,4 ](A/F) 11%,4
= -$555,125.99

VA5= -800,000(A/P) 11%,5 – [250,000(P/F) 11%,1 + 300,000(P/F) 11%,2 +

350,000(P/F) 11%,3 + 400,000( P/F) 11%,4 + 450,000(P/F) 11%,5 ](A/F) 11%,5
= -$ 556,069.18

The lowest VA is the first, it means it is only kept for one year

Ejercicio 2 - The initial cost of a bridge expected to last 100 years is

$900 million. Maintenance can be done at intervals of one, two, three or
four years, but the longer it takes, the greater the cost. Maintenance
costs are estimated at $50 million, $88 million, $135 million and $160
million, for intervals of one, two, three and four years respectively. What
interval should be scheduled for maintenance to minimize the total
equivalent annual cost? The interest rate is 11% per year.
Data

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Initial cost $900,000,000
100 years time
Annual cost $50,000,000
Biennial cost $88,000,000
Cost every 3 years $135,000,000
Cost every 4 years $160,000,000
11% interest rate
One-year VA = -50M(A/F) 11%,1 = -$50M
2-year VA = -88M(A/F) 11%,2 = -$41.7M
3-year VA = -135M(A/F) 11%,3 = -$40.39M
4 year VA = -160M(A/F) 11%,4 = -$33.97M
The best option is to wait until 4 years.

Ejercicio 3 - An engineer analyzes two robots to reduce costs on a

production line. Robot A would have an initial cost of $160,000, annual
maintenance and operation (M&O) cost of $50,000, and salvage values
of $100,000, $60,000, and $30,000 after years 1, 2, and 3,
respectively. Robot B would have an initial cost of $175,000, annual
M&O cost of $30,000, and salvage values of $100,000, $60,000, and
$25,000 after 1, 2, and 3 years, respectively. Which robot should be
selected if a three-year study period is specified, with an interest rate of
15% per year and replacement after one year is not an option?
VA(RA) = -160,000(A/P) 15%,3 – 50,000 + 30,000(A/F) 15%,3
= -160,000(0.43798) - 50,000 + 30,000(0.28798) = -$111,437.01
VA(RB) = -175,000(A/P)15%,3 – 30,000 + 25,000(A/F) 15%,3
= -175,000(0.43798) - 30,000 + 25,000(0.28798) = -$99,446.54
Robot B is chosen, since its annual value is lower.

Ejercicio 4 - A company bought a machine 4 years ago for $60,000.

Such machine is expected to have the commercial values and annual
operating costs indicated below for the remainder of its maximum useful
life of three years. It could sell now with a market value of $8,000.
Year Commercial value Annual operating
at the end of the cost in $
year in $

1 30,000 50,000

2 20,000 55,000

3 10,000 68,000

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A replacement machine with new digital technology costs $140,000 and
has a salvage value of $22,000 after its five-year life, and an annual
operating cost of $35,000 per year. Using an interest rate of 10% per
year, determine how many years the company should keep the current
machine. Solve the problem a) by hand and b) with a spreadsheet.

VA n = 1.

VA = -60,000(A/P) 10%,1 + 30,000(A/F) 10%,1 – 50,000 = -$86,000

VA n = 2.

VA=-60,000(A/P) 10%,2 +20,000(A/F) 10%,2 –[50,000(P/F) 10%,1

+55,000(P/F) 10%,2 ](A /P) 10%,2 = -$77,428.57

VA n = 3

VA=-60,000(A/P) 10%,3 +10,000(A/F) 10%,3 –[50,000(P/F) 10%,1

+55,000(P/F) 10%,2 +68,000( P/F) 10%,3 ](A/P) 10%,3 = -$78,205,438

The company could keep the current machine for 2 years, because the
VA is lower.

Challenger VA = -140,000(A/P) 10%.5 + 22,000(A/F) 10%.5 – 35,000 = -

$68,328.10

The challenger option is chosen because it has a lower VA than the

defender.

Initial cost -60,000 and 10%

Years V.C. CAO Capital Recovery CAO VA total VA

1 30000 -50000 ($36,000.00) ($50,000.00) ($86,000.00)
2 20000 -55000 ($25,047.62) ($52,380.95) ($77,428.57)
3 10000 -68000 ($21,105.74) ($57,099.70) ($78,205.44)

10%
Years -140,000 Flow
1 0 -35000
2 0 -35000
3 0 -35000
4 0 -35000
5 22000 -35000
GOES -68328.1

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Ejercicio 5 - When looking for ways to lower costs and increase profits
(to drive up the company's stock price), an industrial engineer at the
company determined that the equivalent annual value of an existing
machine over the remainder of its four-year useful life it would be $
−100,000 per year. The engineer also determined that a replacement
with more advanced features would have an VA of $−110,000 per year
if kept for two years or less, $−110,000 if kept for three to four years,
and $−120, 000 if kept for five to 10 years. If the engineer uses a
three-year study period and an interest rate of 12% per year, she
should recommend that the existing machine:
a) Be replaced now

b) It is replaced within one year

c) Be replaced within three years

d) Be replaced within five years

d) Do not change

Years of Challenge VA 1 VA 2 VA 3 VA after 3

defender r years years

3 0 110 110 110 110

2 1 100 110 110 106.6

1 2 100 100 110 103.3

0 3 100 100 100 100

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Ejercicio 6 - An electric power generator in a hospital mechanical room
had an initial cost of $1.5 million and can be used for a maximum of 8
years. Its surrender value, which decreases 12% per year, is described
by the equation VR = 1,500,000(1−0.12) n , where n is the number of
years after purchase. The operating cost of the generator will be
$500,000 in the first year and will have increases of $50,000 each year.
With an interest rate of 9% per year, what is the economic life and the
amount of associated VA?

Capital
Years VR CAO recovery CAO VA total VA
0 1500000
($315,000.00 ($500,000.00
1 1320000 -500000 ) ) ($815,000.00)
($296,913.88 ($523,923.44
2 1161600 -550000 ) ) ($820,837.32)
($280,752.72 ($547,130.96
3 1022208 -600000 ) ) ($827,883.68)
899543.0 ($266,301.12 ($569,625.20
4 4 -650000 ) ) ($835,926.32)
791597.8 ($253,368.65 ($591,409.84
5 8 -700000 ) ) ($844,778.49)
696606.1 ($241,786.94 ($612,489.61
6 3 -750000 ) ) ($854,276.55)
613013.3 ($231,407.03 ($632,870.21
7 9 -800000 ) ) ($864,277.24)
539451.7 ($222,097.11 ($652,558.32
8 9 -850000 ) ) ($874,655.43)
474717.5 ($213,740.46 ($671,561.55
9 7 -900000 ) ) ($885,302.01)
417751.4 ($206,233.70 ($689,888.39
10 6 -950000 ) ) ($896,122.09)
367621.2 ($199,485.18 ($707,548.21
11 9 -1000000 ) ) ($907,033.39)
323506.7 ($193,413.67 ($724,551.17
12 3 -1050000 ) ) ($917,964.83)
284685.9 ($187,947.05 ($740,908.18
13 3 -1100000 ) ) ($928,855.23)
250523.6 ($183,021.34 ($756,630.88
14 1 -1150000 ) ) ($939,652.22)
220460.7 ($178,579.68 ($771,731.53
15 8 -1200000 ) ) ($950,311.21)
194005.4 ($174,571.52 ($786,223.02
16 9 -1250000 ) ) ($960,794.54)
170724.8 ($170,951.91 ($800,118.76
17 3 -1300000 ) ) ($971,070.67)

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 150237.8 ($167,680.83 ($813,432.65
18 5 -1350000 ) ) ($981,113.48)
132209.3 ($164,722.65 ($826,179.00
19 1 -1400000 ) ) ($990,901.65)
116344.1 ($162,045.59 ($838,372.50 ($1,000,418.09
20 9 -1450000 ) ) )
102382.8 ($159,621.31 ($850,028.15 ($1,009,649.46
21 9 -1500000 ) ) )

The useful life of the project is only one year because the VA does not
decrease, the associated VA amount is $815,000
Ejercicio 7 - An engineer determined the VUE of a new piece of
equipment and recorded the calculations shown below. (Note that the
numbers are annual values associated with different years of keeping
the equipment; that is, if the equipment is kept for, say, three years,
the PV [years 1 to 3] of the initial cost is $32,169, the PV The operating
cost is $51,000 and the salvage value is $6,042.) The engineer forgot to
capture the PV of the salvage value for two years of conservation. From
the available information, obtain the following: a) The interest rate used
in the VUE calculations. b) The salvage value after two years if the total
VA of the equipment in year 2 was $78,762. Use the interest rate
determined in part a)
We consider the exercise as incomplete…