Boston Cola is considering the purchase of a special-purpose bottling machine fo

Question

Boston Cola is considering the purchase of a special-purpose bottling machine for $70,000. It is expected to have a useful life of 4 years with no terminal disposal value. The plant manager estimates the following savings in cash operating costs (Click the icon to view the savings in cash operating costs ) Boston Cola uses a required rate of return of 20% in its capital budgeting decisions. Ignore income taxes in your analysis. Assume all cash flows occur at year-end except for initial investment amounts (Click the icon to view the Future Value of $1 factors.) (Click the icon to view the Future Value of Annuity of $1 factors.) (Click the icon to view the Present Value of $1 factors.) (Click the icon to view the Present Value of Annuity of $1 factors.) Read the requirements. 1. Net present value. (Use factor amounts rounded to three decimal places. Round your answers to the nearest whole dollar. Use a minus sign or parentheses for a negative net present value.) The net present value is $ Data Table Requirements Amount $ 30,000 25,000 20,000 15,000 S 90,000 Calculate the following for the special purpose bottling machine: 1. Net present value 2. Payback period 3. Discounted payback period 4. Internal rate of return (using the interpolation method) 5. Accrual accounting rate of return based on net initial investment (Assume Year straight-line depreciation. Use the average annual savings in cash operating costs when computing the numerator of the accrual accounting rate of return.) Total PrintDone Print Done

Explanation / Answer

1. Net present value = Present value of cash inflows - Initial investment

= Sum of (Cash inflow each period x Present value factor for that period at 20%) - Initial investment

= [(30000 x 0.833) + (25000 x 0.694) + (20000 x 0.579) + (15000 x 0.482)] - 70000

= $(8850)

2. Payback period

Payback period = 2 years + (70000-55000)/ 20000

= 2.75 years

3. Discounted payback period

The investment is not paid back till the end. Hence the Discounted payback period is $0.

4. Internal rate of return

Net Present value at 12%

= Present value of cash inflows - Initial investment

= Sum of (Cash inflow each period x Present value factor for that period at 10%) - Initial investment

= [(30000 x 0.893) + (25000 x 0.797) + (20000 x 0.712) + (15000 x 0.636)] - 70000

= $495

Net Present value at 14%

= Present value of cash inflows - Initial investment

= Sum of (Cash inflow each period x Present value factor for that period at 10%) - Initial investment

= [(30000 x 0.877) + (25000 x 0.769) + (20000 x 0.675) + (15000 x 0.592)] - 70000

= $(2085)

Internal rate of return with interpolation

= 12.37%

5. Accounting rate of return = [Incremental revenue - Incremental expenses(depreciation)]/ Initial investment

= (90000 - 70000)/ 70000

= 28.57%

Year Cash inflow per year Cumulative cash inflows 1 30000 30000 2 25000 55000 3 20000 75000 4 15000 90000

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