An oil company is considering changing thesize of a small pump that is currently operational inwells in an oil field. If this pump is kept, it will extract50% of the known crude-oil reserve in the first yearof its operation and the remaining 50% in the secondyear. A pump larger than the current pump will cost$1.6 million, but it will extract 100% of the knownreserve in the first year. The total oil revenues overthe two years are the same for both pumps, namely,$20 million. The advantage of the large pump is thatit allows 50% of the revenues to be realized a yearearlier than with the small pump.If the firm’s MARR is known to be 20%, whatdo you recommend based on the IRR criterion?
An oil company is considering changing thesize of a small pump that is currently operational inwells in an oil field. If this pump is kept, it will extract50% of the known crude-oil reserve in the first yearof its operation and the remaining 50% in the secondyear. A pump larger than the current pump will cost$1.6 million, but it will extract 100% of the knownreserve in the first year. The total oil revenues overthe two years are the same for both pumps, namely,$20 million. The advantage of the large pump is thatit allows 50% of the revenues to be realized a yearearlier than with the small pump.If the firm’s MARR is known to be 20%, whatdo you recommend based on the IRR criterion?
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
Related questions
Question
An oil company is considering changing the
size of a small pump that is currently operational in
wells in an oil field. If this pump is kept, it will extract
50% of the known crude-oil reserve in the first year
of its operation and the remaining 50% in the second
year. A pump larger than the current pump will cost
$1.6 million, but it will extract 100% of the known
reserve in the first year. The total oil revenues over
the two years are the same for both pumps, namely,
$20 million. The advantage of the large pump is that
it allows 50% of the revenues to be realized a year
earlier than with the small pump.
If the firm’s MARR is known to be 20%, what
do you recommend based on the
Expert Solution
This question has been solved!
Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.
Step by step
Solved in 2 steps with 2 images
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, accounting and related others by exploring similar questions and additional content below.Recommended textbooks for you
Accounting
Accounting
ISBN:
9781337272094
Author:
WARREN, Carl S., Reeve, James M., Duchac, Jonathan E.
Publisher:
Cengage Learning,
Accounting Information Systems
Accounting
ISBN:
9781337619202
Author:
Hall, James A.
Publisher:
Cengage Learning,
Accounting
Accounting
ISBN:
9781337272094
Author:
WARREN, Carl S., Reeve, James M., Duchac, Jonathan E.
Publisher:
Cengage Learning,
Accounting Information Systems
Accounting
ISBN:
9781337619202
Author:
Hall, James A.
Publisher:
Cengage Learning,
Horngren's Cost Accounting: A Managerial Emphasis…
Accounting
ISBN:
9780134475585
Author:
Srikant M. Datar, Madhav V. Rajan
Publisher:
PEARSON
Intermediate Accounting
Accounting
ISBN:
9781259722660
Author:
J. David Spiceland, Mark W. Nelson, Wayne M Thomas
Publisher:
McGraw-Hill Education
Financial and Managerial Accounting
Accounting
ISBN:
9781259726705
Author:
John J Wild, Ken W. Shaw, Barbara Chiappetta Fundamental Accounting Principles
Publisher:
McGraw-Hill Education