The following data are accumulated by Reynolds Company in evaluating the purchas

Question

The following data are accumulated by Reynolds Company in evaluating the purchase of $129,200 of equipment, having a four-year useful life:

a. Assuming that the desired rate of return is 20%, determine the net present value for the proposal. Use the table of the present value of $1 presented above. If required, round to the nearest dollar.

b. Would management be likely to look with favor on the proposal?
Select YES OR NO

The net present value indicates that the return on the proposal is BLANK than the minimum desired rate of return of 20%.

Net Income Net Cash Flow Year 1 $38,000 $64,000 Year 2 23,000 49,000 Year 3 11,000 37,000 Year 4 (1,000) 25,000

Explanation / Answer

a) Present Value of Net Cash Flow = C1* PV1 + C2 * PV2 + C3 * PV3 + C4 * PV4 C1 = Cash flow of year 1 = 64000 C2 = Cash flow of year 2 = 49000 C3 = Cash flow of year 3 = 37000 C4 = Cash flow of year 4 = 25000 PV1 =PV @20% interest for Year 1 = 0.833 53312 PV2 =PV @20% interest for Year 2 = 0.694 34006 PV3 =PV @20% interest for Year 3 = 0.579 21423 PV4 =PV @20% interest for Year 4 = 0.482 12050 120791 Hence , Present Value of net cash flow = 64000 * 0.833 + 49000 * 0.694 +37000 * 0.579 + 25000 * 0.482 = 53312 + 34006 + 21423+ 12050 =120791 Present Value of net cash flow = 120791 Less amount to be invested = 129200 Net Present Value = -8409 b) NO Since the NPV is negative at the desired returnof 20% , the management is not likely to favor the proposal The net present value indicates that the return on the proposal is LOWER than the minimum desired rate of return of 20%

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