a.
Compute the
a.
Explanation of Solution
Net present value method:
Net present value method is used to compare the initial
Calculate the net present value of the equipment:
Particulars | Amount ($) |
Present value of annual net | $4,520,000 |
Present value of residual value (2) | $64,400 |
Total present value | $4,584,400 |
Amount to be invested | ($3,000,000) |
Net present value | $1,584,400 |
Table (1)
Hence, the net present value of the equipment is $1,584,400.
Working Note 1:
Calculate the present value of annual net cash flows:
Working Note 2:
Calculate the present value of annual net cash flows:
b.
Compute the net present value of the equipment, assuming 12% desired
b.
Explanation of Solution
Calculate the net present value of the equipment:
Estimated Annual Net Cash Flow | |||
Particulars | Amount ($) | Amount ($) | Amount ($) |
Estimated annual net cash flows | $400,000 | $600,000 | $800,000 |
Multiply: Present value factor from Exhibit 5 | |||
Present value of annual net cash flows | $2,260,000 | $3,390,000 | $4,520,000 |
Present value of residual value (2) | $64,400 | $64,400 | $64,400 |
Total present value | $2,324,400 | $3,454,400 | $4,584,400 |
Amount to be invested | ($3,000,000) | ($3,000,000) | ($3,000,000) |
Net present value | ($675,600) | $454,400 | $1,584,400 |
Table (2)
Hence, the net present value of the equipment for annual net cash flow of $400,000 is ($675,600), for annual net cash flow of $600,000 is $454,400 and for annual net cash flow of $800,000 is $1,584,400.
c.
Compute the net present value of the equipment, assuming 15% desired rate of return for the given annual net cash flows.
c.
Explanation of Solution
Calculate the net present value of the equipment:
Estimated Annual Net Cash Flow | |||
Particulars | Amount ($) | Amount ($) | Amount ($) |
Estimated annual net cash flows | $400,000 | $600,000 | $800,000 |
Multiply: Present value factor from Exhibit 5 | |||
Present value of annual net cash flows | $2,007,600 | $3,011,400 | $4,015,200 |
Present value of residual value (3) | $49,400 | $49,400 | $49,400 |
Total present value | $2,057,000 | $3,060,800 | $4,064,600 |
Amount to be invested | ($3,000,000) | ($3,000,000) | ($3,000,000) |
Net present value | ($943,000) | $60,800 | $1,064,600 |
Table (3)
Hence, the net present value of the equipment for annual net cash flow of $500,000 is ($811,700), for annual net cash flow of $700,000 is $417,300 and for annual net cash flow of $900,000 is $1,646,300.
Working Note 3:
Calculate the present value of annual net cash flows:
d.
Identify the minimum annual net cash flow required to generate a positive net present value.
d.
Explanation of Solution
Calculate the minimum annual net cash flows:
Hence, the minimum annual net cash flow required to generate a positive net present value is $519,575.
e.
Interpret the results in parts (a), (b) and (c).
e.
Explanation of Solution
Every business desires to get maximum profit with minimum investment. The net cash flow of $800,000 is generated from the investment which has a present value of $1,584,400. This clearly indicates the management could invest in the equipment. However, when there is a decrease in the annual net cash flows there is also a drastic decrease in the present value of the equipment. The annual net cash flow must be above $519,575 to generate a profit by the company.
Want to see more full solutions like this?
Chapter 12 Solutions
Managerial Accounting
- San Lucas Corporation is considering investment in robotic machinery based upon the following estimates: a. Determine the net present value of the equipment, assuming a desired rate of return of 10% and annual net cash flows of 700,000. Use the present value tables appearing in Exhibits 2 and 5 of this chapter. b. Determine the net present value of the equipment, assuming a desired rate of return of 10% and annual net cash flows of 500,000, 700,000, and 900,000. Use the present value tables (Exhibits 2 and 5) provided in the chapter in determining your answer. c. Determine the minimum annual net cash flow necessary to generate a positive net present value, assuming a desired rate of return of 10%. Round to the nearest dollar. d. Interpret the results of parts (a), (b), and (c).arrow_forwardAssume San Lucas Corporation in MAD 26-1 assigns the following probabilities to the estimated annual net cash flows: a. Compute the expected value of the annual net cash flows. b. Determine the expected net present value of the equipment, assuming a desired rate of return of 10% and the expected annual net cash flows computed in part (a). Use the present value tables (Exhibits 2 and 5) provided in the chapter in determining your answer. c. Based on your results in parts (a) and (b), should San Lucas Corporation invest in the equipment?arrow_forwardAssume Home Garden Inc. in MAD 26-5 assigns the following probabilities to the estimated construction cost of the warehouse and annual net cash flows: a. Compute the expected value of the construction cost. b. Compute the expected value of the annual net cash flows. c. Determine the expected net present value of building the distribution warehouse, assuming a desired rate of return of 14% and using the expected values computed in parts (a) and (b). Use the present value tables provided in Appendix A. Round to the nearest dollar. d. Based on your results in part (c), should Home Garden Inc. build the distribution warehouse?arrow_forward
- Garnette Corp is considering the purchase of a new machine that will cost $342,000 and provide the following cash flows over the next five years: $99,000, $88,000, $92,000. $87,000, and $72,000. Calculate the IRR for this piece of equipment. For further instructions on internal rate of return in Excel. see Appendix C.arrow_forwardConsolidated Aluminum is considering the purchase of a new machine that will cost $308,000 and provide the following cash flows over the next five years: $88,000, 92,000, $91,000, $72,000, and $71,000. Calculate the IRR for this piece of equipment. For further instructions on internal rate of return in Excel, see Appendix C.arrow_forwardRoberts Company is considering an investment in equipment that is capable of producing more efficiently than the current technology. The outlay required is 2,293,200. The equipment is expected to last five years and will have no salvage value. The expected cash flows associated with the project are as follows: Required: 1. Compute the projects payback period. 2. Compute the projects accounting rate of return. 3. Compute the projects net present value, assuming a required rate of return of 10 percent. 4. Compute the projects internal rate of return.arrow_forward
- Gallant Sports s considering the purchase of a new rock-climbing facility. The company estimates that the construction will require an initial outlay of $350,000. Other cash flows are estimated as follows: Assuming the company limits its analysis to four years due to economic uncertainties, determine the net present value of the rock-climbing facility. Should the company develop the facility if the required rate of return is 6%?arrow_forwardHome Garden Inc. is considering the construction of a distribution warehouse in West Virginia to service its east coast stores based on the following estimates: a. Determine the net present value of building the warehouse, assuming a construction cost of 20,000,000, an annual net cost savings of 4,000,000, and a desired rate of return of 14%. Use the present value tables provided in Appendix A. b. Determine the net present value of building the warehouse, assuming a construction cost of 25,000,000, an annual net cost savings of 2,500,000, and a desired rate of return of 14%. Use the present value tables provided in Appendix A. c. Interpret the results of parts (a) and (b).arrow_forwardThere are two projects under consideration by the Rainbow factory. Each of the projects will require an initial investment of $35,000 and is expected to generate the following cash flows: Use the information from the previous exercise to calculate the internal rate of return on both projects and make a recommendation on which one to accept. For further instructions on internal rate of return in Excel, see Appendix C.arrow_forward
- Mason, Inc., is considering the purchase of a patent that has a cost of $85000 and an estimated revenue producing lite of 4 years. Mason has a required rate of return that is 12% and a cost of capital of 11%. The patent is expected to generate the following amounts of annual income and cash flows: A. What is the NPV of the investment? B. What happens if the required rate of return increases?arrow_forwardFalkland, Inc., is considering the purchase of a patent that has a cost of $50,000 and an estimated revenue producing life of 4 years. Falkland has a cost of capital of 8%. The patent is expected to generate the following amounts of annual income and cash flows: A. What is the NPV of the investment? B. What happens if the required rate of return increases?arrow_forwardEdelman Engineering is considering including two pieces of equipment, a truck and an overhead pulley system, in this year’s capital budget. The projects are independent. The cash outlay for the truck is $17,100, and that for the pulley system is $22,430. The firm’s cost of capital is 14%. After-tax cash flows, including depreciation, are as follows: Calculate the IRR, the NPV, and the MIRR for each project, and indicate the correct accept/reject decision for each.arrow_forward
- Managerial AccountingAccountingISBN:9781337912020Author:Carl Warren, Ph.d. Cma William B. TaylerPublisher:South-Western College PubFinancial And Managerial AccountingAccountingISBN:9781337902663Author:WARREN, Carl S.Publisher:Cengage Learning,Cornerstones of Cost Management (Cornerstones Ser...AccountingISBN:9781305970663Author:Don R. Hansen, Maryanne M. MowenPublisher:Cengage Learning
- EBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENTIntermediate Financial Management (MindTap Course...FinanceISBN:9781337395083Author:Eugene F. Brigham, Phillip R. DavesPublisher:Cengage Learning