Sailing Boat Company is interested in replacing a molding machine with a new improved model.
The old machine has a salvage value of $20,000 now and a predicted salvage value of
$4,000 in six years, if rebuilt. If the old machine is kept, it must be rebuilt in one year at a
predicted cost of $40,000.
The new machine costs $160,000 and has a predicted salvage value of $24,000 at the end
of six years. If purchased, the new machine will allow cash savings of $40,000 for each of
the first three years, and $20,000 for each year of its remaining six-year life.
Required:
What is the net present value of purchasing the new machine if the company has a required
rate of return of 14%?
Answer:
Predicted PV of
Cash Flows Year(s) PV Factor Cash Flows
Initial Investment $(160,000) 0 1.000 $(160,000)
Salvage of old 20,000 0 1.000 20,000
Annual operations 40,000 1-3 2.322 92,880
Annual operations 20,000 4-6 (3.889-2.322) 31,340
Save by not rebuilding 40,000 1 0.877 35,080
Salvage of new 24,000 6 0.456 10,944
Net present value $ 30,244
76. Supply the missing data for each of the following proposals.
Proposal A Proposal B Proposal C
Initial investment (a) $62,900 $226,000
Annual net cash inflow $60,000 (c) (e)
Life, in years 10 6 10
Salvage value $0 $10,000 $0
Payback period in year (b) (d) 5.65
Internal rate of return 12% 24% (f)
Answer:
a.
Annual cash inflow $ 60,000
Present value factor for 10 years x 5.650
Initial investment $339,000
b. Payback period = $339,000/$60,000 = 5.65 years
c.
Initial investment $62,900
PV of salvage value ($10,000 x 0.275) (2,750)
Net PV of annual net cash inflow $60,150
Annual cash inflow = $60,150/3.020 = $19,917.22
d. Payback = $62,900/$19,917.22 = 3.158
e. Annual net cash inflow = $226,000/5.650 = $40,000
f. PV factor for 10 years = $226,000/$40,000 = 5.650
Look up value 5.650 in PV of annuity table under 10 years and the internal rate of
return is 12%.
Mountain Vehicle has received three proposals for its new vehicle-painting machine. Information
on each proposal is as follows:
Proposal X Proposal Y Proposal Z
Initial investment in equipment $180,000 $120,000 $190,000
Working capital needed 0 0 10,000
Annual cash saved by operations:
Year 1 75,000 50,000 80,000
Year 2 75,000 48,000 80,000
Year 3 75,000 44,000 80,000
Year 4 75,000 8,000 80,000
Salvage value end of year:
Year 1 100,000 80,000 60,000
Year 2 80,000 60,000 50,000
Year 3 40,000 40,000 30,000
Year 4 10,000 20,000 15,000
Working capital returned 0 0 10,000
Required:
Determine each proposal's payback.
Answer:
Proposal X payback = $180,000/75,000 = 2.4 years
Proposal Y Cash Savings Savings Accumulated To Be Recovered
Year 0 $120,000
Year 1 $50,000 $ 50,000 70,000
Year 2 48,000 98,000 22,000
Year 3 44,000 142,000 0
Proposal Y payback = 2 years plus $22,000/$44,000 or 2.5 years.
Proposal Z payback = ($190,000 + $10,000)/80,000 = 2.5 years
