Palo Alto Corporation is considering purchasing a new delivery truck. The truck
ID: 2491417 • Letter: P
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 $55,790. Because of the increased capacity, reduced maintenance costs, and increased fuel economy, the new truck is expected to generate cost savings of $7,700. At the end of 8 years the company will sell the truck for an estimated $27,650. 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%. Click here to view the factor table. (For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Collapse question part (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.) Cash payback period years Net present value $
Explanation / Answer
Answer:
Calculation of cash payback period:
Cash payback period = Cost of the project/ Annual cash flow
Cash payback period = 55790/7700 = 7.2 years
Calculation of Net present value:
Therefore, NPV of the proposed investment is $3398.
Explanation:
1) Cash flow in year 8 = Annual cash flow + salvage value
Cash flow in year 8 = $7700+$27650 = $35350
2) PV of the cash flow is calculated as: Annual cash flow in a year * PVIF
3) NPV is the sum of the PV of the cash flows from year 0 to year 8.
Year Annual Cash flow PVIF @ 8% PV of cash flow 0 -55790 1 -55790 1 7700 0.92593 7129.661 2 7700 0.85734 6601.518 3 7700 0.79383 6112.491 4 7700 0.73503 5659.731 5 7700 0.68058 5240.466 6 7700 0.63017 4852.309 7 7700 0.58349 4492.873 8 35350 0.54027 19098.5445 Total 3398Related Questions
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