Al a Mode, Inc., is considering one of two investment options. Option 1 is a $47

Question

Al a Mode, Inc., is considering one of two investment options. Option 1 is a $47,000 investment in new blending equipment that is expected to produce equal annual cash flows of $15,000 for each of seven years. Option 2 is a $55,000 investment in a new computer system that is expected to produce equal annual cash flows of $19,000 for each of five years. The residual value of the blending equipment at the end of the fifth year is estimated to be $10,000. The computer system has no expected residual value at the end of the fifth year.

Assume there is sufficient capital to fund only one of the projects. Determine which project should be selected, comparing the (a) net present values and (b) present value indices of the two projects, assuming a minimum rate of return of 12%. Use the present value tables appearing above.

a. Determine the net present values of the two projects.

b. Determine the present value indices of the two projects. If required, round the present value index to two decimal places.

Present Value of $1 at Compound Interest Year 6% 10% 12% 15% 20% 1 0.943 0.909 0.893 0.870 0.833 2 0.890 0.826 0.797 0.756 0.694 3 0.840 0.751 0.712 0.658 0.579 4 0.792 0.683 0.636 0.572 0.482 5 0.747 0.621 0.567 0.497 0.402 6 0.705 0.564 0.507 0.432 0.335 7 0.665 0.513 0.452 0.376 0.279 8 0.627 0.467 0.404 0.327 0.233 9 0.592 0.424 0.361 0.284 0.194 10 0.558 0.386 0.322 0.247 0.162

Explanation / Answer

PV of cash flows = 15,000 x 3.605 +10,000 x 0.567 = 59,745 for Blending

PV of cash flows = 19,000 x 3.605 = 68,495 for Computer

NPV = PV of cash flows - Investment

PV index = NPV / Investment

Blending Computer PV cashflows 59745 68495 Investment 47000 55000 NPV 12745 13495 PV Index 27.12% 24.54%

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

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