**I asked this on another Chegg account and while someone did it, they didn\'t r

Question

**I asked this on another Chegg account and while someone did it, they didn't really explain how they did it and how I should go about writing the memo..

ABC Corporation has a machine that requires repairs or should be replaced. ABC has evaluated the two options and calculated the cash flows resulting from each option as follows:

Option A: Repair the Machine
Year | Cash Flow
0 -50,000
1 31,500
2 20,100
3 18,900
4 17,100
5 13,700

Option B: Buy a new Machine
Year | Cash Flow
0 -400,000
1 91,300
2 155,000
3 127,800
4 126,900
5 125,100

You have recently been hired by ABC Corporation and your first assignment is to help them decide whichof these two options should be pursued. You would like to apply Capital Budgeting and Time Value ofMoney concepts you have learnt in FIN 301 to analyze the problem and present your recommendationto your boss, Ms. Jane Austen.

Conduct the analysis by calculating the following for each option:
1. Net Present Value (NPV)2. Internal Rate of Return (IRR)3. Profitability Index (PI)4. Payback Period (PB)5. Crossover Rate The company has a Weighted Average Cost of Capital (WACC) (discount Rate) of 12%. For this analysis,your boss John Doe asked you to calculate NPV at three different discount rates: 12% (the currentWACC), 14% and 16%.
Include: 1. A one-page memo explaining the results of your analysis and your recommendation. The memoshould include important results of your analysis such as a summary table or graph. The memo is limited to one page so be very selective on what information to include.

2. An Excel spreadsheet showing calculation of above at the 3 discount rates and graph on NPVProfile. Assume benchmark for payback period. Write =if( ) statements to offer dynamicdecisions.

Explanation / Answer

NPV = P.V. of Cash inflow - P.V. of Cash outflow

I) At 12 %.

Option A) Repair the Machine.

P.V. of Cash inflow = 31500 * P.V. factor for first year @ 12 % + 20100 * P.V. factor for second year @ 12 % + 18900 * P.V. factor for third year @ 12 % + 17100 * P.V. factor for fourth year @ 12 % + 13700 * P.V. factor for fifth year @ 12 % .

P.V. of Cash inflow = 31500 * 0.893 + 20100 * 0.797 + 18900 * 0.712 + 17100 * 0.636 + 13700 * 0.567

P.V. of Cash inflow = $ 76250

NPV = 76250 - 50000 = $ 26250

Profitability index = 76250 / 50000 = 1.525

Option B) Buy a new Machine.

P.V. of Cash inflow = 91300 * P.V. factor for first year @ 12 % + 155000 * P.V. factor for second year @ 12 % + 127800 * P.V. factor for third year @ 12 % + 126900 * P.V. factor for fourth year @ 12 % + 125100 * P.V. factor for fifth year @ 12 % .

P.V. of Cash inflow = 91300 * 0.893 + 155000 * 0.797 +127800 * 0.712 + 126900 * 0.636 + 125100 * 0.567

P.V. of Cash inflow = $ 447700

NPV = 447700 - 400000 = $ 47700

Profitability Index = 447700 / 400000 = 1.11925

NPV = P.V. of Cash inflow - P.V. of Cash outflow

II) At 16 %

Option A) Repair the Machine.

P.V. of Cash inflow = 31500 * P.V. factor for first year @ 16 % + 20100 * P.V. factor for second year @ 16 % + 18900 * P.V. factor for third year @ 16 % + 17100 * P.V. factor for fourth year @ 16 % + 13700 * P.V. factor for fifth year @ 16 % .

P.V. of Cash inflow = 31500 * 0.862 + 20100 * 0.743 + 18900 * 0.641 + 17100 * 0.552 + 13700 * 0.476

P.V. of Cash inflow = $ 70163 (approx)

NPV = 70163 - 50000 = $ 20163

Profitability index = 70163 / 50000 = 1.40326

Option B) Buy a new Machine.

P.V. of Cash inflow = 91300 * P.V. factor for first year @ 16 % + 155000 * P.V. factor for second year @ 16 % + 127800 * P.V. factor for third year @ 16 % + 126900 * P.V. factor for fourth year @ 16 % + 125100 * P.V. factor for fifth year @ 16 % .

P.V. of Cash inflow = 91300 * 0.862 + 155000 * 0.743 + 127800 * 0.641 + 126900 * 0.552 + 125100 * 0.476

P.V. of Cash inflow = $ 405382 (approx)

NPV = 405382 - 400000 = $ 5382

Profitability Index = 405382 / 400000 = 1.013455

At 14 %

Option A) Repair the Machine.

P.V. of Cash inflow = 31500 * P.V. factor for first year @ 14 % + 20100 * P.V. factor for second year @ 14 % + 18900 * P.V. factor for third year @ 14 % + 17100 * P.V. factor for fourth year @ 14 % + 13700 * P.V. factor for fifth year @ 14 %

P.V. of Cash inflow = 31500 * 0.877 + 20100 * 0.769 + 18900 * 0.675 + 17100 * 0.592 + 13700 * 0.519

P.V. of Cash inflow = $ 73073 (approx)

NPV = 73073 - 50000 = $ 23073

Profitability index = 73073 / 50000 = 1.46146

Option B) Buy a new Machine.

P.V. of Cash inflow = 91300 * P.V. factor for first year @ 14 % + 155000 * P.V. factor for second year @ 14 % + 127800 * P.V. factor for third year @ 14 % + 126900 * P.V. factor for fourth year @ 14 % + 125100 * P.V. factor for fifth year @ 14 % .

P.V. of Cash inflow = 91300 * 0.877 + 155000 * 0.769 + 127800 * 0.675 + 126900 * 0.592 + 125100 * 0.519

P.V. of Cash inflow = $ 425582 (approx)

NPV = 425582 - 400000 = $ 25582

Profitability Index = 425582 / 400000 =1.063955

Payback Period:-

Option A)

Pay back period = 1 + (50000 - 31500) / 20100 = 1 + 18500 / 20100 = 1 + 0.92 = 1.92 Years

Option B)

Pay back period = 3 + (400000 - 374100) / 126900 = 3 + 25900 / 126900 = 3 + 0.20 = 3.20 Years

Conclusion:-

Year Cash Inflow Cumulative Cash inflow 1 31500 31500 2 20100 51600 3 18900 70500

Related Questions

Navigate

• Browse (All)
• Browse #
• Subjects

---

---

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