BAK Corp. is considering purchasing one of two new diagnostic machines. Either m
ID: 2401200 • Letter: B
Question
BAK Corp. is considering purchasing one of two new diagnostic machines. Either machine would make it possible for the company to bid on jobs that it currently isn’t equipped to do. Estimates regarding each machine are provided below.
Click here to view PV table.
Calculate the net present value and profitability index of each machine. Assume a 9% discount rate. (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round answer for present value to 0 decimal places, e.g. 125 and profitability index to 2 decimal places, e.g. 10.50. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)
Which machine should be purchased?
Explanation / Answer
Machine A Machine B Net Present Value $ 2,840 $ -18,679 Profitability Index 1.04 0.90 Machine A Should be purchased. Workings: Machine A: Estimated annual cash inflows $ 19,700 Estimated annual cash outflows 5,040 Estimated net annual cash inflows 14,660 Cumulative discount factor 5.5348 Present Value of cash inflows 81,140 Less Cost of Machine 78,300 Net Present Value 2,840 Working: Cumulative discount factor = (1-(1+i)^-n)/i Where, = (1-(1+0.09)^-8)/0.09 i 9% = 5.53482 n 8 Profitability Index = Present Value of cash inflows / Cost of Macine = 81,140 / 78,300 = 1.04 Machine B: Estimated annual cash inflows $ 39,900 Estimated annual cash outflows 9,850 Estimated net annual cash inflows 30,050 Cumulative discount factor 5.5348 Present Value of cash inflows 1,66,321 Less Cost of Machine 1,85,000 Net Present Value -18,679 Working: Cumulative discount factor = (1-(1+i)^-n)/i Where, = (1-(1+0.09)^-8)/0.09 i 9% = 5.53482 n 8 Profitability Index = Present Value of cash inflows / Cost of Macine = 1,66,321 / 1,85,000 = 0.90 Machine A has positive Net Present Value and profitability Index more than 1 whereas Machine B has negative Net present value and profitability index less than 0.So, Machine A is better option to select.
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