REPLACEMENT

THEORY
20P204 - ASHWIN R
20P217 - PRITHIVIRAJAN
BATCH - 13 V
20P220 - VIJAY VIGNESH
S
 A firm is considering replacement of a machine whose cost price is 17,500
and the scrap value is 500. The maintenance cost found from experience is
given as follows:

Duration
1 2 3 4 5 6 7 8
(year)

Maintenance
200 300 500 1200 1500 2400 3300 4500
cost in Rs

When should the machine to replaced?

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 Cumulative
Duration Maintenance Depreciation Average total
Scrap value maintenance Total cost
(year) cost cost cost
cost

1 200 500 200 17000 17200 17200

2 300 500 500 17000 17500 8750

3 500 500 1000 17000 18000 6000

4 1200 500 2200 17000 19200 4800

5 1800 500 4000 17000 21000 4200

6 2400 500 6400 17000 23400 3900

7 3300 500 9700 17000 26700 3814.28

8 4500 500 14200 17000 31200 3900

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❖ Hence the average cost is lowest during 7th year.

❖ The machine should be replaced,after every 7th year otherwise the average
cost per year for maintaining the machine would start increasing.

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An electronic device which is used to control the parameters of a
chemical process consists of 1000 resistors. The cost of replacing a
resistor individually is Rs. 25. The cost of replacing all the resistors at the
same time is Rs. 6 per resistor. The probability of failure of a resistor for
each of its life spans in terms of months is shown in Table Determine the
best replacement policy.

Month i 1 2 3 4 5
0.10 0.23 0.40 0.18 0.09

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solution
The probabilities of failure of a resistor in different months are:

Let, Ni be the number of resistors replaced at the end of the ith month.
Then

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Determination of individual replacement cost

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The cost of group replacement policy for several replacement periods
are summarized

End of month cost of replacing cost of replacing resistors Total cost average cost per
A 1000 resistors at a individually during given (B+C) month
time replacement period D(Rs.) (D/A)
B(Rs.) C(Rs.) E(Rs.)

1 6000 100*25=2500 8,500 8500

2 6000 (100+240)*25=8500 14,500 7250

3 6000 (100+2402447)*25=19,675 25,675 8558.33

4 6000 (100+240+447+320)*25=27,675 33,675 8418.75

5 6000 (100+240+447+320+339)*25 42,150 8430

=36,150

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From Table , the minimum average cost/month is Rs. 8418.75 and the
corresponding replacement period is 4 months. That is, if the group replacement
policy is the best when compared to the individual replacement policy, then the
group replacement period is 4 months.
Average cost per month for the individual replacement policy = Rs. 8550.00
Minimum average cost per month for the group replacement policy = Rs. 8418.75
Since, the minimum average cost per month for the group replacement policy is
lesser than the average cost per month for the individual replacement policy, the
group replacement policy is the best policy.
Summary: Replace all the resistors once in 4 months and if there is any failures
during this 4 month period, then replace those resistors individually during the 4
month period.

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 problem
A firm is considering the replacement of a machine ,whose cost price
is Rs 12,000 and its scrap value is Rs 200.From experience the running
(maintenance and operating) costs are found to be as follows:

year 1 2 3 4 5 6 7 8

Running 200 500 800 1200 1800 2500 3200 4000

Cost

when should the machine be replaced?

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 solution:
Running cost(R) are given.
Scrap value(S)=Rs 200
Cost of machine(C)=Rs 12,200
Depreciation Cost(D)= C-S
= 12,200-200
D= 12,000

YEAR 1 2 3 4 5 6 7 8

Running
200 500 800 1200 1800 2500 3200 4000
Cost

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In order to determine which machine should be replaced,we first
calculate the average cost per year during the life of the machine.

Average
Total Cost
YEAR Running cost Cummulative Depreciation Cost Total Cost
(E)
(A) (R) Running cost(B) (D) (F)
(E)= (B)+ (D)
(F)= (E)/(A)

1 200 200 12,000 12,200 12,200

2 500 700 12,000 12,700 6,350

3 800 1,500 12,000 13,500 4,500

4 1200 2,700 12,000 14,700 3,675

5 1800 4,500 12,000 16,500 3,300

6 2500 7,000 12,000 19,000 3,167

7 3200 10,200 12,000 22,200 3,171

8 4000 14,200 12,000 26,200 12 3,275

The Calculations in table shows that the average cost is lowest
during the 6th year ( RS 3,167).

Hence , the machine should be replaced after every 6th

years ,otherwise the average cost per year for running
the machine would start increasing .

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 REPLACEMENT POLICY WHEN TIME VALUE OF
CASH FLOW IS CONSIDERED
A scooter costs RS. 6000 when new. The running cost and the salvage
value at the end of the year are given in table. If the interest rate is
10% per year and the running cost are assumed to have occurred at
mid year, find when scooter should be replaced.

Year 1 2 3 4 5 6 7
Running
1200 1400 16000 1800 2000 2400 3000
cost
Salvage
4000 2666 2000 1500 1000 600 600
value

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Solution:
Capital cost, C = Rs.6000

Interest rate, r = 10% = 0.1

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16
The total cost for the, 1st year

= Capital cost – Discounted salvage value + running cost with PV factor, until 1 st year

= 6000 – 3636 + 1145.40

= 3509

The total cost for the, 2nd year

= Capital cost – Discounted salvage value + running cost with PV factor, until 2nd year

= 6000 – 2203 + (1145.40 + 1214.78)

= 6157
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 Running
PV at Average Discounted
Running cost with Salvage Total Cumulative Annual
end of PV salvage
cost PV at PV value cost PV factor total cost
Year year factor value
beginning factor
‘t’
of year
1 2 3 4=1х3 5 6=5х2 7 8 9 = 7/8

1 1200 1.0000 0.9091 0.9545 1145.40 4000 3636 3509 1.0000 3509

2 1400 0.9091 0.8264 0.8677 1214.78 2666 2203 6157 1.9091 3225

3 1600 0.8264 0.7513 0.7889 1262.24 2000 1503 8120 2.7355 2968

4 1800 0.7513 0.6830 0.7172 1290.96 1500 1025 9889 3.4869 2836

5 2000 0.6830 0.6209 0.6520 1304 1000 621 11596 4.1699 2781

6 2400 0.6209 0.5645 0.5927 1422.48 600 339 13301 4.7908 2776

7 3000 0.5645 0.5132 0.5388 1616.40 600 308 14948 5.3553 2791
The total cost for the, mid year

= Capital cost – Discounted salvage value + running cost with PV factor, until 4th year

= 6000 – 1025 + (1145.40 + 1214.78 + 1262.24 + 1290.96)

= 9889

The repair and maintenance cost for year 7 is more than the annual cost for
year 6. Hence, the scooter should be replaced after six years.

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Thank You!

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