Question 6 18 Marks

Actom evaluates the operating costs of two types of equipment. The standard model costs

R50,000 and will have a useful life of four years. Operating costs are expected to be R5,000

per year. The superior model costs R90,000 and will have a useful life of six years. Its

operating costs are expected to be R3,000 per year. Both models will be able to operate at

the same level of output and quality and generate the same earnings. Actoms cost of capital

is 10 percent.

Required:

6.1. Calculate the present values of each of the cash costs over the useful life of each

model. (5)

6.2. Can the two present values be compared? If not, why not? (5)

6.3. What is the annuity-equivalent cost of each model? (4)

6.4. Which model should the company purchase? Explain. (4)