You need to know whether the building of a new warehouse is justified under the

Question

You need to know whether the building of a new warehouse is justified under the following conditions: The proposal is for a warehouse costing $250,000 The warehouse has an expected useful life of 35 years and a net solvage value of $50,000 at the end of useful life. Annual receipts of 67,000 are expected, annual maintenance and administrative costs will be 12,000 per year, and annual income taxes are $15,000. Given the foregoing data, which of the following statements are correct? the proposal is justified for an interest rate of 15%? The proposal has a net present value of $50.254 when 20% is used as the interest rate. The proposal is acceptable as long as the interest rate is less than equal to 15.93% . All of the above are correct?

Explanation / Answer

Ans a - The returns are 67000 - (12000 + 15000) = $40000 x 35 = $1400000 + $50000 which is more than the cost hence returns are positive and the project is justified.

Ans b - All of the above are correct.

Present Value = Cashflow / (1 + interest rate) ^ number of year

NPV = Sum of the present values of all the cashflows.

Year Cashflow Interest Present Value NPV 0 -250000 15% -250000.00 15039.74 1 40000 15% 34782.61 2 40000 15% 30245.75 3 40000 15% 26300.65 4 40000 15% 22870.13 5 40000 15% 19887.07 6 40000 15% 17293.10 7 40000 15% 15037.48 8 40000 15% 13076.07 9 40000 15% 11370.50 10 40000 15% 9887.39 11 40000 15% 8597.73 12 40000 15% 7476.29 13 40000 15% 6501.12 14 40000 15% 5653.15 15 40000 15% 4915.78 16 40000 15% 4274.59 17 40000 15% 3717.04 18 40000 15% 3232.20 19 40000 15% 2810.61 20 40000 15% 2444.01 21 40000 15% 2125.23 22 40000 15% 1848.02 23 40000 15% 1606.98 24 40000 15% 1397.37 25 40000 15% 1215.11 26 40000 15% 1056.61 27 40000 15% 918.79 28 40000 15% 798.95 29 40000 15% 694.74 30 40000 15% 604.12 31 40000 15% 525.32 32 40000 15% 456.80 33 40000 15% 397.22 34 40000 15% 345.41 35 90000 15% 675.80 Year Cashflow Interest Present Value NPV 0 -250000 20% -250000.00 -50253.95 1 40000 20% 33333.33 2 40000 20% 27777.78 3 40000 20% 23148.15 4 40000 20% 19290.12 5 40000 20% 16075.10 6 40000 20% 13395.92 7 40000 20% 11163.27 8 40000 20% 9302.72 9 40000 20% 7752.27 10 40000 20% 6460.22 11 40000 20% 5383.52 12 40000 20% 4486.27 13 40000 20% 3738.56 14 40000 20% 3115.46 15 40000 20% 2596.22 16 40000 20% 2163.52 17 40000 20% 1802.93 18 40000 20% 1502.44 19 40000 20% 1252.03 20 40000 20% 1043.36 21 40000 20% 869.47 22 40000 20% 724.56 23 40000 20% 603.80 24 40000 20% 503.16 25 40000 20% 419.30 26 40000 20% 349.42 27 40000 20% 291.18 28 40000 20% 242.65 29 40000 20% 202.21 30 40000 20% 168.51 31 40000 20% 140.42 32 40000 20% 117.02 33 40000 20% 97.52 34 40000 20% 81.26 35 90000 20% 152.37 Year Cashflow Interest Present Value NPV 0 -250000 15.93% -250000.00 -40.53 1 40000 15.93% 34503.58 2 40000 15.93% 29762.43 3 40000 15.93% 25672.76 4 40000 15.93% 22145.05 5 40000 15.93% 19102.09 6 40000 15.93% 16477.26 7 40000 15.93% 14213.11 8 40000 15.93% 12260.08 9 40000 15.93% 10575.42 10 40000 15.93% 9122.24 11 40000 15.93% 7868.75 12 40000 15.93% 6787.50 13 40000 15.93% 5854.83 14 40000 15.93% 5050.31 15 40000 15.93% 4356.35 16 40000 15.93% 3757.74 17 40000 15.93% 3241.39 18 40000 15.93% 2795.99 19 40000 15.93% 2411.79 20 40000 15.93% 2080.38 21 40000 15.93% 1794.52 22 40000 15.93% 1547.93 23 40000 15.93% 1335.23 24 40000 15.93% 1151.75 25 40000 15.93% 993.49 26 40000 15.93% 856.98 27 40000 15.93% 739.22 28 40000 15.93% 637.64 29 40000 15.93% 550.02 30 40000 15.93% 474.44 31 40000 15.93% 409.25 32 40000 15.93% 353.02 33 40000 15.93% 304.51 34 40000 15.93% 262.66 35 90000 15.93% 509.79

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