Comparison of Depreciation between Two Machines

Question

You have been asked to choose between two pollution devices. The “Wet Scrub” costs $1,000 to set up and $500 per year to operate. It must be completely replaced every 3 years and it will have a salvage value of $100 when replaced. The “Dry Scrub” device costs $2,000 to set up but only $300 a year to operate. It lasts for 5 years and has no salvage value. In order to arrive at these estimates for the operating costs, you hired a consultant who has invoiced the company for $350. Both devices can be depreciated using straight line depreciation and the tax rate for the firm is 30%. Assuming that pollution control equipment is replaced as it wears out, and that the cost of capital is 10%, which device do you recommend?

Summary

The question belongs to Finance and it is about the comparison between two pollution devices, their operational costs per year, their depreciation and the cost of capital. You have to recommend which of the two devices is cost effective both in terms of initial investment, operational cost and cost of capital.

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