David Co. produces all-terrain vehicles (ATVs). The once successful line is no l

Question

David Co. produces all-terrain vehicles (ATVs). The once successful line is no longer selling well, so the company is considering production of a new improved 4 passenger ATV. This can be done by buying needed production equipment. The after tax cash flow for buying this equipment is $900,000, at the beginning of Year 0. The alternative to produce the same output, is to lease that same equipment through four equal payments of $238,000 each year paid at the beginning of the year. The required rate of return (hurdle rate) for this business is 12 percent. Assume no taxes. Revenue from sales of the new 4 passenger ATV is expected to be:

Year 1 - $425,000

Year 2

Explanation / Answer

Purchase Option

Net Present Value = -900000 + 425000/(1+12%) + 300000/(1+12%)^2 + 170000/(1+12%)^3 + 90000/(1+12%)^4

Net Present Value = - 103,178.28

Lease Option

Net Present Value = -238000 + (425000-238000)/(1+12%) + (300000-238000)/(1+12%)^2 + (170000-238000)/(1+12%)^3 + 90000/(1+12%)^4

Net Present Value = - 12,814.12

Decision : Neither of option provide NPV positive , therefore the project is not viable , The best option is to avoid the project

Related Questions

Navigate

• Browse (All)
• Browse D
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.