Capital Recovery Cost

In most engineering situations, the capital cost has two components

I = the investment required at time 0, and
S = the salvage value received at time N.

    S

 0

Capital Recovery (CR) cost is the annual equivalent of the capital cost. CR is often
described from the bank’s point of view and is a function of the MARR, i%.
CR(i) = I(A/P, i, N) + S(A/F, i, N)
Because of the similarities between the formulas for (A/P, i, N) and
(A/F, i, N) , we can also calculate CR(i) using
CR(i) = (I – S)(A/P, i, N) + iS, or
CR(i) = (I – S)(A/F, i, N) + iI

Example
Your company is planning to manufacture a new product which requires a machine
that the company does not now own. The cost of the machine is $10,000, its life is
4 years, and its salvage value (at the end of the 4th year) is $1000. With this
machine, the new profit from each product is $12. What annual production makes
the investment worthwhile? The MARR is 10%.
Solution
We must find the capital recovery costs. The data are
I = $10,000 S = $1,000
MARR = 10% Useful life N = 4

CR = I(A/P, MARR, N) – S(A/F, MARR, N)

= $10,000(A/P,10%,4) – $1000(A/F, 10%, 4)
= $10,000(0.3155) – $1000(0.2155)
= $3155 – $215.50
= $2939.5

Using the other approaches, we get

CR = (I – S)(A/P,10%,4) + (0.1)S
= $9,000 (0.3155) + (0.1)$1000
= $2839.5 + $100 = $2939.5

CR = (I – S)(A/F,10%,4) + (0.1)I
= $9000 (0.2155) + (0.1)$10,000
= $1939.5 + $1000
= $2939.5

To be profitable, revenues must equal or exceed the capital recovery costs. Let X
be the number of products produced per year.
Revenues – CR = $12X – $2939.5  0. Solving for X, we get X  245 units.