5) Using a 10% interest rate, determine which alternative should be selected bas

Question

5) Using a 10% interest rate, determine which alternative should be selected based on a net present worth analysis. Alternative First Cost Annual Benefit Useful Life $5,300 $1,800 4 years S10,700 $2,100 8 year 6) Baton Rouge Hospital is evaluating newlab equipment. The interest rate is 15% and in each case the equipment's useful life is 4 years. Use NPW analysis to determine option should be selected. Alternative O&M Cost First Cost Annual Benefit $1,000 $15,000 $8,000 $400 $13,000 So,000 $900 $25,000 $20,000 $11,000 Salvage Value 53,000 $4,500

Explanation / Answer

5) Investment A

*Value from present value of an annuity of $1 in arrears table.

Investment B

*Value from present value of an annuity of $1 in arrears table.

Thus, alternative A should be selected as net present value of A is positive and that of B is negative.

6) Net Present value = - First cost - O&M cost(P/A, i, n) + Annual benefit(P/A, i, n) + salvage value(P/F, i, n)

Profitability Index =

Investment A

Net present value = -15000 -1600(P/A, 15%, 4) + 8000(P/A, 15%, 4) + 3000(P/F, 15%, 4)

= -15000 -1600(2.855) + 8000(2.855) + 3000(0.5718) = $3,443.54

Investment B

Net present value = -25000 - 400(2.855) + 13000(2.855) + 6000(0.5718) = $14,403.8

Investment C

Net present value = -20000 - 900(2.855) + 11000(2.855) + 4500(0.5718) = $11,408.6

Investment B should be selected as NPV of B is greater than that of A & C which means it will be more beneficial to invest in alternative B.

Item Years Amount of cash flow 10% factor Present value of cash flow Annual benefit 1-4 $1800 3.170* 5706 First cost 0 ($5300) 1.000 ($5300) Net present value $406

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