A small airline is considering two different jet engines for

A small airline is considering two different jet engines for use on 10 new \"twin-jet\" aircraft that are being added to its fleet. Each engine has the same maintenance and repair cost record with a service life of 10 years. Both engines have a salvage value of 10% of their initial cost. Engine-A costs $ 10,000,000/engine with an average fuel consumption rate of 140 gals/hr/engine of flight service operation Engine-B costs $ 15,000,000/engine with a 15% better fuel economy than Engine-A. The airline expects to operate each of the 10 new jets for 2500 hours/year over a 10-year period. Jet fuel currently costs $7/gal. Assume no inflation for fuel cost. The airline will buy 2 spare engines, for a total purchase of 22 engines. Determine the best engine alternative using Annual Equivalent Value on Total Investment evaluation method with a 15% MARR and a 10-year study period. Is your decision sensitive to the price of jet fuel increasing above $7/gal in the study period? Provide the rationale.

Solution

SOLUTION:

equivalent annual cost is one of the capital budgeting method and which gives annual investment of investment

1) given that

for engine A

initial cost=10000000 dollar

operation cost=mf\'*cost*time=140*7*2500=2450000 dollar

each has salvage value of 10% of initial cost

here annuity factor A(f,t)=(1-(1/(1+r)^t))/r

r=.15, t=10 years

A(f,t)=5.01876

2) equivalent annual cost= asset/A(f,t)+operation cost=(10000000/5.01876)+2450000

EACa=4442524.05 dollar

3) for engine B

initial cost=15000000 dollar

operating cost=.85*mf\'*7*time=.85*140*7*2500=2082500 dollar

annuity factor is same for both engine

A(f,t)=5.01876

equivalent annual cost=assest/A(f,t)+operation cost=(15000000/5.01876)+2082500=5071286.075 dollar

EACb=5071286.075 dollar

4) here as EAC value of engine A is less than engine B hence alternative of engine A is advantageous over engine B.

5)yes decision is depend on price of fuel as it will decide the operating cost of engine and indirectly decide the equivalent annual value and increase in fuel price will increase equivalent annual cost of enginesfor company.