EUAC(3%) $10,000 $9,500 $9,000 $3.64 $8,500 $8,000 Gas-Only Hybrid $7,500 $2.00 $2.50 $3.00 $3.50 $4.00 $4.50 $5.00 Cost of Gasoline (S/gal) Figure 11-2 Breakeven Chart for Hybrid versus Gas-Only Vehicle Comment In this example, we only considered the easily measured monetary benefit of the hybrid vehicle. Other important factors that may influence this decision are reduced emissions and more efficient use of a scarce resource. EXAMPLE 11-2 Two Alternative Breakeven Analysis: Hybrid Vehicles Gas-electric (so-called hybrid) vehicles save on gasoline consumption by shutting off the vehicle's engine while idling, giving the vehicle a boost of electric power during acceleration, and capturing electrical energy while braking. In addition to environmental benefits, the primary monetary benefit to the owner is reduced fuel cost as a result of improved gas mileage. The trade-off, however, is that the purchase price of the hybrid vehicle is higher than that of a standard gasoline-only fueled vehicle. Consider a hybrid vehicle with a sticker price of $31,500. This vehicle will average 30 miles per gallon of gasoline. A tax credit of $1,500 for the hybrid vehicle effectively reduces its sticker price to $30,000. A comparably equipped gasoline-only vehicle will cost $28,000 and will average 25 miles per gallon of gasoline. Assuming an interest rate of 3% per year and a study period of five years, find the breakeven cost of gasoline (S/gal) if the vehicle will be driven 18,000 miles each year. Solution To find the cost of gasoline that makes you indifferent between the two vehicles, you need to develop an equivalent-worth equation in terms of the factor of interest-the cost of gasoline. In this simple example, we are only considering the sticker price (investment cost) and fuel cost (annual expenses). By default, we are assuming that the maintenance of the two vehicles will be the same as will the future resale value. In this example, we develop equivalent uniform annual cost (EUAC) expressions for each of the vehicles. Letting X = cost of gasoline, we get the following EUAC equations. Hybrid: EUACH(3%) = ($31,500 - $1,500)(A/P, 3%, 5) +(SX/gal) 18,000 mi/year 30 mi/gal Gas-only: EUACG(3%) = $28,000 (A/P, 3%, 5) + ($X/gal) 18,000 mi/year 25 mi/gal Setting EUACH(3%) = EUACG(3%) and solving for X, we find the breakeven cost of gasoline to be X = $3.64/gal. Figure 11-2 shows the breakeven chart for these vehicles as a function of the cost of gasoline. If our best estimate of the average cost of gasoline over the next five years is less than $3.64 per gallon, then purchasing a traditional gasoline-only vehicle is more economical. The hybrid would be the vehicle of choice if the cost of gasoline is projected to be higher than $3.64 per gallon.

EUAC(3%) $10,000 $9,500 $9,000 $3.64 $8,500 $8,000 Gas-Only Hybrid $7,500 $2.00 $2.50 $3.00 $3.50 $4.00 $4.50 $5.00 Cost of Gasoline (S/gal) Figure 11-2 Breakeven Chart for Hybrid versus Gas-Only Vehicle Comment In this example, we only considered the easily measured monetary benefit of the hybrid vehicle. Other important factors that may influence this decision are reduced emissions and more efficient use of a scarce resource. EXAMPLE 11-2 Two Alternative Breakeven Analysis: Hybrid Vehicles Gas-electric (so-called hybrid) vehicles save on gasoline consumption by shutting off the vehicle's engine while idling, giving the vehicle a boost of electric power during acceleration, and capturing electrical energy while braking. In addition to environmental benefits, the primary monetary benefit to the owner is reduced fuel cost as a result of improved gas mileage. The trade-off, however, is that the purchase price of the hybrid vehicle is higher than that of a standard gasoline-only fueled vehicle. Consider a hybrid vehicle with a sticker price of $31,500. This vehicle will average 30 miles per gallon of gasoline. A tax credit of $1,500 for the hybrid vehicle effectively reduces its sticker price to $30,000. A comparably equipped gasoline-only vehicle will cost $28,000 and will average 25 miles per gallon of gasoline. Assuming an interest rate of 3% per year and a study period of five years, find the breakeven cost of gasoline (S/gal) if the vehicle will be driven 18,000 miles each year. Solution To find the cost of gasoline that makes you indifferent between the two vehicles, you need to develop an equivalent-worth equation in terms of the factor of interest-the cost of gasoline. In this simple example, we are only considering the sticker price (investment cost) and fuel cost (annual expenses). By default, we are assuming that the maintenance of the two vehicles will be the same as will the future resale value. In this example, we develop equivalent uniform annual cost (EUAC) expressions for each of the vehicles. Letting X = cost of gasoline, we get the following EUAC equations. Hybrid: EUACH(3%) = ($31,500 - $1,500)(A/P, 3%, 5) +(SX/gal) 18,000 mi/year 30 mi/gal Gas-only: EUACG(3%) = $28,000 (A/P, 3%, 5) + ($X/gal) 18,000 mi/year 25 mi/gal Setting EUACH(3%) = EUACG(3%) and solving for X, we find the breakeven cost of gasoline to be X = $3.64/gal. Figure 11-2 shows the breakeven chart for these vehicles as a function of the cost of gasoline. If our best estimate of the average cost of gasoline over the next five years is less than $3.64 per gallon, then purchasing a traditional gasoline-only vehicle is more economical. The hybrid would be the vehicle of choice if the cost of gasoline is projected to be higher than $3.64 per gallon.

Managerial Economics: Applications, Strategies and Tactics (MindTap Course List)

14th Edition

ISBN:9781305506381

Author:James R. McGuigan, R. Charles Moyer, Frederick H.deB. Harris

Publisher:James R. McGuigan, R. Charles Moyer, Frederick H.deB. Harris

Chapter17: Long-term Investment Analysis

Section: Chapter Questions

Problem 10E

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