3. Lon Timur is an accounting major at a midwestem state university located appr
ID: 2429676 • Letter: 3
Question
3. Lon Timur is an accounting major at a midwestem state university located approximately 60 miles from a major city. Many of the students attending the university are from the metropolitan area and visit their homes regularly on the weekend. Lon, an entrepeneur, realizes that few good commuting alternatives are available for students doing weekend travel. He believes that a weekend commuting service could be organized and nm profitably from several suburban and downtown shopping mall locations. Lon has gathered the following investment information: a. Five used vans would cost a total of $75,000 to purchase and would have a 3-year useful life with no salvage value. Lon plans to use straight-line depreciation. Lon would like to recover the intitial cash outlay within 2 years b. Ten drivers would have to be employed at a total payroll cost of $48,000 annually Other annual out-of-pocket costs associated with would include Gasoline $16,000, Maintenance $3,300, Repairs $4,000, Insurance $4,200, and Advertising $2,500 c. unning the commuter service d. Lon has visited several financial institutions to discuss funding. The best interest rate he has been able to negotiate is 15%. Use this rate for cost of capital, Lon would like to eam at least an 18% rate of retum Lon expects each van to make ten round trips WEEKLY and carry an average of six students each round tip. The service is expected to operate 30 weeks each year, and each student will be charged $12 for a round-trip ticket. e. Instructions (a) Compute the payback peiod and determine if the project is acceptable (b) Compute the accounting rate of return and determine if the project is acceptable (c) Compute the net present value and determine if the project is acceptable (d) Compute the intemal rate of return and determine if the project is acceptable (e) Repeat (a) through (d) assuming the useful life of the vans is 5 yearsExplanation / Answer
Answer
The Computation of Annual Net Income
Particulars
Amount
Revenue :
12 per trip X 6 students X 10 trips X 30 weeks X 5 vans
108,000.00
Cost:
Depreciation - $75,000 for 3 year
25,000.00
Driver Salary
$48,000.00
Maintenance
$3,300.00
Gasoline
$16,000.00
Repairs
$4,000.00
Advertising
$2,500.00
Insurance
$4,200.00
Interest - assuming initial investment of $75,000 was funded
$11,250.00
The Total Expenses
$114,250.00
Net Profit / (Loss)
-$6,250.00
(a) (2)
The Computation of Annual Net Cash Flow
Particulars
Amount
Cash Inflow:
12 per trip X 6 students X 10 trips X 30 weeks X 5 vans
$108,000.00
Cash Outflow:
Driver Salary
$48,000.00
Gasoline
$16,000.00
Repairs
$4,000.00
Maintenance
$3,300.00
Insurance
$4,200.00
Advertising
$2,500.00
Interest - assuming initial investment of $75,000 was funded
$11,250.00
The Total Cash Outflow
$89,250.00
Net Cash Surplus / (Deficit)
$18,750.00
(b) (1)
The Computation of Cash Payback Period
Initial Investments - Cost of 5 vans - (A)
$75,000.00
Net Cash Flow per year - (B)
$18,750.00
Cash Payback Period in years ( A/B)
4.00
(b) (2)
The Investment at the beginning of year
$75,000.00
Net Cash Surplus
$18,750.00
Annual return - (Net return/Investment)
25%
The Computation of Annual Net Income
Particulars
Amount
Revenue :
12 per trip X 6 students X 10 trips X 30 weeks X 5 vans
108,000.00
Cost:
Depreciation - $75,000 for 3 year
25,000.00
Driver Salary
$48,000.00
Maintenance
$3,300.00
Gasoline
$16,000.00
Repairs
$4,000.00
Advertising
$2,500.00
Insurance
$4,200.00
Interest - assuming initial investment of $75,000 was funded
$11,250.00
The Total Expenses
$114,250.00
Net Profit / (Loss)
-$6,250.00
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