The annualized equivalent annuity (AE) or equivalent annual annuity (EAA) method converts a project's net present value (NPV) into a series of equal annual cash flows over its lifespan. This is particularly useful for comparing projects with different lives. The formula is AE = NPV / Annuity Factor.

First, calculate the annuity factor for 3 years at a 14% cost of capital:

Annuity Factor = [1 - (1 + r)^-n] / r

Annuity Factor = [1 - (1.14)^-3] / 0.14 ≈ 2.321632

Next, calculate the AE:

AE = $12,600 / 2.321632 ≈ $5,427.15

Rounding to the nearest whole dollar gives $5,427.

1. Brealey

R. A.

Myers

S. C.

& Allen

F. (2020). Principles of Corporate Finance (13th ed.). McGraw-Hill Education. Chapter 6

Section 6-3

"Choosing between Projects with Unequal Lives

" pp. 133-135

details the calculation and application of the equivalent annual annuity.

2. Berk

J.

& DeMarzo

P. (2020). Corporate Finance (5th ed.). Pearson. Chapter 8

Section 8.5

"Projects with Different Lives

" pp. 259-261

provides the formula EAA = NPV / [Annuity Factor] and explains its use in capital budgeting.

3. CIMA. (2019). Official CIMA P2 Advanced Management Accounting Study Text. The CIMA P2 syllabus covers long-term decision-making and investment appraisal

including the use of equivalent annual cost and equivalent annual benefit for comparing projects with unequal lives under Syllabus Area C: Project Appraisal.