The management of Hansley Corporation is investigating an investment in equipmen
ID: 2581018 • Letter: T
Question
The management of Hansley Corporation is investigating an investment in equipment that would have a useful life of 5 years. The company uses a discount rate of 18% in its capital budgeting. Good estimates are available for the initial investment and the annual cash operating outflows, but not for the annual cash inflows and the salvage value of the equipment. The net present value of the initial investment and the annual cash outflows is-$273.300. (Ignore income taxes.) Click here to view Exhibit 13B-1 and Exhibit 138-2, to determine the appropriate discount factor (s) using the tables provided. Ignoring any salvage value, to the nearest whole dollar how large would the annual cash inflow have to be to make the investment in the equipment financially attractive?
Explanation / Answer
Answer 1.
Present Value of Cash Outflows = $273,300
Discount Rate = 18%
Useful Life = 5 years
Annual Cash Inflows = Present Value of Cash Outflows / PVA of an Annuity (18%, 5)
Annual Cash Inflows = $273,300 / 3.12717
Annual Cash Inflows = $87,395
So, annual cash inflows must be greater than $87,395
Answer 2.
Investment = $30,000
Life of Investment = 15 years
Annual Depreciation = Investment / Life of Investment
Annual Depreciation = $30,000 / 15
Annual Depreciation = $2,000
Annual Cash Inflows = $6,000
Annual Net Income = Annual Cash Inflows - Annual Depreciation
Annual Net Income =$6,000 - $2,000
Annual Net Income = $4,000
Simple Rate of Return = Annual Net Income / Investment
Simple Rate of Return = $4,000 / $30,000
Simple Rate of Return = 13.3%
So, Simple rate of return for this investment is 13.3%
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