You are considering the following two options:
Option 1: You continue to use an old machine tool that was bought four years ago for $15,000. It has been fully depreciated but can be sold today for $2,000. If kept, it could be used for 3 more years with proper maintenance and with some extra care. No salvage value is expected at the end of 3 years. The maintenance costs would run $10,000 per year for the old machine tool.
Option 2: You purchase a brand new machine tool at a price of $20,000 to replace the present equipment. Because of the nature of the product manufactured, it also has an expected economic life of 3 years, and will have a salvage value of $5,000 at the end of that time. With the new machine tool, the expected operating and maintenance costs (with the scrap savings) amount to $3,000 each year for 3 years.
What is the net annual equivalent uniform annual cost associated with replacing the old machine tools now at an interest rate of 15%
(i.e. annual cost of Option 1 – annual cost of Option 2)?