The following information is available regarding a possible investment Cost of M

Question

The following information is available regarding a possible investment Cost of Machine $300,000 ($200,000 down, $50,000 due at end of years 1 and 2) 12 years $12,000 Life Salvage Value Annual Savings years 1-6 $50,000 Years 7-12 $40,000 Repair needed in year 8 $60,000 Required rate of return 12% Old Cost $200,000 Accumulated Depreciation $150,000 Sell for ed and Will Be Sold $10,000 Loss on Sale 40,000 Required 1. Use net present value method to evaluate the investment 2. What is the payback period?

Explanation / Answer

As the NPV is negative, the proposal should not be accepted.

Answer for question no.2:

From the above table it is clear that the cumulative cash flows are turning positive in the year 6.

Assuming cash flows are uniform, per month cash inflows in year 6=50000/12

=$4,166.67.

Cash to be generated to make the cumulative cash flows positive =40000

This is generated in 40000/4166.67 =9.6 months

so, the payback period=5 years and 9.6 months.

Year Cash out flows(1) Cash inflows(2) Net cash flows(3)=(1)+(2) Present value factor @12%(4) Present value(5)=(3)*(4) 0 -200000 10000 -190000 1 -190000 1 -50000 50000 0 0.892857 0 2 -50000 50000 0 0.797194 0 3 50000 50000 0.71178 35589.01 4 50000 50000 0.635518 31775.9 5 50000 50000 0.567427 28371.34 6 50000 50000 0.506631 25331.56 7 40000 40000 0.452349 18093.97 8 -60000 40000 -20000 0.403883 -8077.66 9 40000 40000 0.36061 14424.4 10 40000 40000 0.321973 12878.93 11 40000 40000 0.287476 11499.04 12 50000 50000 0.256675 12833.75 Total -7279.75

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