Palo Alto Corporation is considering purchasing a new delivery truck. The truck

Question

Palo Alto Corporation is considering purchasing a new delivery truck. The truck has many advantages over the company’s current truck (not the least of which is that it runs). The new truck would cost $55,700. Because of the increased capacity, reduced maintenance costs, and increased fuel economy, the new truck is expected to generate cost savings of $8,460. At the end of 8 years the company will sell the truck for an estimated $27,510. Traditionally the company has used a rule of thumb that a proposal should not be accepted unless it has a payback period that is less than 50% of the asset’s estimated useful life. Larry Newton, a new manager, has suggested that the company should not rely solely on the payback approach, but should also employ the net present value method when evaluating new projects. The company’s cost of capital is 8%.

(For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

A) Compute the cash payback period and net present value of the proposed investment. (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. Round answer for Payback period to 1 decimal place, e.g. 10.5.)

Does the project meet the company’s cash payback criteria? Does it meet the net present value criteria for acceptance?

Explanation / Answer

As nothing mentioned in regarding Tax   and depreciation, ignoring both aspects Payback And NPV calculation Year   Investment   Cost Saving   Salvage   Net Cash Flow PV factor @8% PV Of Cash Flows Year 0            (55,700)       (55,700)          1.000    (55,700.0) Year 1               8,460           8,460          0.926         7,833.3 Year 2               8,460           8,460          0.857         7,253.1 Year 3               8,460           8,460          0.794         6,715.8 Year 4               8,460           8,460          0.735         6,218.4 Year 5               8,460           8,460          0.681         5,757.7 Year 6               8,460           8,460          0.630         5,331.2 Year 7               8,460           8,460          0.583         4,936.3 Year 8               8,460        27,510         35,970          0.540      19,433.5      7,779.36 Cash Payback period =6.58 years NPV =$7,779.36 Cash Payback period does not meet the criteria of less than 50% of useful life of asset   NPV meets the criterion of positive NPV value

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