Payback Period and IRR of a Cost Reduction Proposal—Differential Analysis (LO2, LO3)

A light-emitting diode (LED) is a semiconductor diode that emits narrow-spectrum light. Although relatively expensive when compared to incandescent bulbs, they use significantly less energy and last Six to ten times longer, with a slow decline in performance rather than an abrupt failure.

New York City currently has 80,000 incandescent bulbs in traffic lights at approximately 12,000 intersections. It is estimated that replacing all the incandescent bulbs with LED will cost $28 million.

However, the investment is also estimated to save the City $6.3 million per year in energy costs.’

Required:

a. Determine the payback period of converting New York City traffic lights to LEDs.

b. If the average life of an incandescent streetlight is one year and the average life of an LED streetlight is seven years, should the City finance the investment in LED’s at an interest rate of five percent per year? Justify your answer.

 LO.1