Apnea Video Rental Store is considering the purchase of an almost new minivan to
ID: 2472452 • Letter: A
Question
Apnea Video Rental Store is considering the purchase of an almost new minivan to deliver and pick up video tapes from customers. The minivan will cost $120,000 and is expected to last 10 years. However, the minivan's engine will need to be repaired at a cost of $50,000 at the end of year 4. In addition, purchasing this minivan would require an immediate investment of $40,000 in working capital which would be released for investment elsewhere at the end of the 10 years. The minivan is expected to have a $20,000 salvage value at the end of 10 years. This delivery service is expected to generate net cash inflows of $60,000 per year in each of the 10 years. Apnea has a cost of capital of 20% and an income tax rate of 40%.
Calculate the net present value (NPV) of this investment opportunity. If your answer is negative, place a minus sign in front of your answer with no spaces in between (e.g., -1234). Do not use decimals in your answer.
Explanation / Answer
Solution:
1) Calculation of Present Value of Cash Outflow required for the Investment
Cost of Minivan
$120,000
Add: Working Capital requirement as on today
$40,000
Present Value of Cash Outflow
$160,000
2) Calculation of Present Value of Cash Flow from the Investment
Year
Annual Net Cash Inflows
Cash Outflow
Net Cash Flow
PV factor @ 20%
Present Value
1
$60,000
0
$60,000
0.833
$50,000
2
$60,000
0
$60,000
0.694
$41,667
3
$60,000
0
$60,000
0.579
$34,722
4
$60,000
($50,000)
$10,000
0.482
$4,823
5
$60,000
0
$60,000
0.402
$24,113
6
$60,000
0
$60,000
0.335
$20,094
7
$60,000
0
$60,000
0.279
$16,745
8
$60,000
0
$60,000
0.233
$13,954
9
$60,000
0
$60,000
0.194
$11,628
10
$60,000
0
$60,000
0.162
$9,690
10
Salvage Value after tax ($20,000 x 0.6) = $12,000
0
$12,000
0.162
$1,938
10
Working Capital Released $40,000
0
$40,000
0.162
$6,460
Present Value of Cash Flow
$235,834
3) Net Present Value = Present Value of Cash Flow – Present Value of Cash Outflow = $235,834 - $160,000 = $75,834
Cost of Minivan
$120,000
Add: Working Capital requirement as on today
$40,000
Present Value of Cash Outflow
$160,000
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