Question

A heat exchanger is being installed as part of a plant modernization program. It costs $80,000, including

installation, and is expected to reduce the overall plant fuel cost by $20,000 per year. Estimates of the

useful life of the heat exchanger range from an optimistic 12 years to a pessimistic 4 years. The most

likely value is 5 years. Assume the heat exchanger has no salvage value at the end of its useful life.

Determine the pessimistic, most likely, and optimistic rates of return.

Answer 1

The pessimistic rate of return is:

$R = (20,000× - 80,000)/80,000×100$ % = 0%.

The most likely rate of return is:

$R = (20,000×5 - 80,000)/80,000×100$ % = 25%.

The optimistic rate of return is:

$R = (20,000×12 - 80,000)/80,000×100$ % = 200%.