Consider how White Valley Snow Park Lodge could use capital budgeting to decide
ID: 2580544 • Letter: C
Question
Consider how White Valley Snow Park Lodge could use capital budgeting to decide whether the $11,500,000 Spring Park Lodge expansion would be a good investment. Assume White Valley's managers developed the following estimates concerning the expansion:
Number of additional skiers per day. . . . . . . . . . . . . . .
121
Average number of days per year that weather
conditions allow skiing at White Valley. . . . . . . . .
151
Useful life of expansion (in years). . . . . . . . . . . . . . . . . . .
7
Average cash spent by each skier per day. . . . . . . . . . .
$247
Average variable cost of serving each skier per day. . . .
$80
Cost of expansion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$11,500,000
Discount rate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
14%
Assume that White Valley uses the straight-line depreciation method and expects the lodge expansion to have no residual value at the end of its 77-year
life. They have already calculated the average annual net cash inflow per year to be $3,051,257.
Requirement
1. What is the project's NPV? Is the investment attractive? Why?
Present Value of Annuity of $1
Period
8%
10%
12%
14%
1
0.926
0.909
0.893
0.877
2
1.783
1.736
1.690
1.647
3
2.577
2.487
2.402
2.322
4
3.312
3.170
3.037
2.914
5
3.993
3.791
3.605
3.433
6
4.623
4.355
4.111
3.889
7
5.206
4.868
4.564
4.288
8
5.747
5.335
4.968
4.639
9
6.247
5.759
5.328
4.946
10
6.710
6.145
5.650
5.216
11
7.139
6.495
5.938
5.553
12
7.536
6.814
6.194
5.660
Number of additional skiers per day. . . . . . . . . . . . . . .
121
Average number of days per year that weather
conditions allow skiing at White Valley. . . . . . . . .
151
Useful life of expansion (in years). . . . . . . . . . . . . . . . . . .
7
Average cash spent by each skier per day. . . . . . . . . . .
$247
Average variable cost of serving each skier per day. . . .
$80
Cost of expansion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$11,500,000
Discount rate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
14%
Explanation / Answer
We need to calculate NPV of the project .
NPV = Present Vaue(PV) of Net Cash inflow (-) Present Value of Net Cash outflow
Annual net cash inflow has already been given in the question. It is calculated as follows:
Collection from each skiier 247
Less : Variable cost (80)
167
No of additional skiier 121
Revenue from skiiers per day 20,207 (121x167)
Cash Revenue per year 3,051,257 (20,207x151)
Note : We won't consider depreciation expenses as that is non cash expenditure and taxation effects are ignored in the question.
A. Calculation of PV of Cash inflow for 7 years :
Cash inflow per year 3,051,257
Cumulative PV factor for 7 years @14% discount rate 4.288
Present value of cash inflow of 7 years (3,051,257x4.288) 13,083,790.02
B. PV of Cash outflow :
$11,500,000 has been spent today hence the PV will be the same. (11,500,000x1)
C. NPV of the project = PV of cash inflow (-) PV of cash outflow
= 13,083,790.02 (-) 11,500,000
= $1,583,790.02
The NPV of the project is positive hence it is attactive and therefore should be acceted.
Solution ends here.
Please ask if you have any doubts
Please provide your feedback.
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.