Explain this problem and make an explanation how the problem

Explain this problem and make an explanation how the problem is solved.

REPLACEMENT ANALYSIS: SPECIFIED PERIOD EXAMPLE SOLUTION From previous analysis,AW,for I and 2 years, An asset purchased 2 years ago for $40,000 is harder to maintain than expected. It can be sold now for $12,000 or kept for a maximum of Z more years, in which case operating cost will be $20,000 each year with a salvage value of $10,000 after I year or $9000 after two.A suitable challenger will have an annual worth of $- 24,000 per year. At an interest rate of 10% Per year and over a study period of exactly 2 years determine when the defender should be replaced and Awv.are AWDI- $-23,200 AWD2$-22,629 AWC- $-24,000 OptionYear 1,$ Year 2,$ Year 3,$ AW,$ I (C,C,C) -24,00024,000 24,0024,000 2 (D,C,D) -23,200 24,000 24,000 23,708 3 (D,DC) -22,629-22,629 24,000 23,042 Decision: Option 3; Keep D for 2 years, then replace

Solution

Ans. If Keep the machine for 2yrs

Annnual Cash outflow per annuam is = $20000

PV of Cashoutflow for two years @10% = (20000X1.74) = 34800

Less: PV Salvage of assets at the end of 2yrs (9000X.826)= (7434)

Net cash outflow if machine is keep for 2yr = 27366

Option 2 if replace the machine

Annual cost of suitable challenger is 24000

Cost of first year after sold the assets (24000-12000) = 12000

Cost of Second year is 24000

PV of cash outflow = (12000X.909+24000X.826) = 30732

Decision: Cash outflow under the option 1 is less than cash outflow under the option 2, So company should keep the assets for 2years than replace