n 9 s Computers is deciding joews that doing so would not eliminate failures, bu

Question

n 9 s Computers is deciding joews that doing so would not eliminate failures, but it would reduce the no same time, the additional quality will increase sales. Data regarding the decision to invest is as follows At whether to invest in prevention costs for its servers. I Invest in Prevention Cost of Equipment Working capi tal investment required al Activity Annual Incremental Sales (assume all cash) Annual Cash Expenses $104,000 Repair Costs Depreciation Maintenance Supplies $ 14,000 $ 31,250 $ 30,000 $ 8,000 Year 5 $ 125,000 Retooling costs of equipment at ife 8 Life of project The working capital will be released for investment elsewhere at the end of the 8 years. Joe's Computers uses a 7% discount rate. Show all computations using the net present value format. (Ignore income taxes)

Explanation / Answer

Step 1 : Initial Investment in year 0

Step 2 : Annual Cash Flows ( For year 1 to 8 except year 5)

Note : Depreciation is a non cash cost & hence not considered.

Step 3 : Salvage Value at the end of year 8 is $5000

Also, working capital released at the end of year 8 would be $25000

Step 4 : Net Present Value of the decision

# Since the Net Present Value is negative, Joe's computers should not invest in prevention cost

Particulars Amount (in $) Cost of Equipment 250000 Investment in Working Capital 25000 TOTAL CASH OUTFLOW 275000

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