Question

Net Present Value Method, Present Value Index, and Analysis for a service company

Continental Railroad Company is evaluating three capital investment proposals by using the net present value method. Relevant data related to the proposals are summarized as follows:

		Maintenance Equipment		Ramp Facilities		Computer Network
Amount to be invested		$825,458		$525,954		$275,147
Annual net cash flows:
	Year 1	402,000		293,000		189,000
	Year 2	374,000		264,000		130,000
	Year 3	342,000		234,000		95,000

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

Required:

1. Assuming that the desired rate of return is 20%, prepare a net present value analysis for each proposal. Use the present value of $1 table above. If required, use the minus sign to indicate a negative net present value. If required, round to the nearest dollar.

	Maintenance Equipment	Ramp Facilities	Computer Network
Total present value of net cash flow	$	$	$
Amount to be invested
Net present value	$	$	$

2. Determine a present value index for each proposal. If required, round your answers to two decimal places.

	Present Value Index
Maintenance Equipment
Ramp Facilities
Computer Network

3. The   has the largest present value index. Although   has the largest net present value, it returns less present value per dollar invested than does the  , as revealed by the present value indexes. The present value index for the   is less than 1, indicating that it does not meet the minimum rate of return standard.

Answer 1

Present value of net cash flows
Year	PVF at 20%	Maint. Equip	Ramp Facilities	Computer Network
			cash flows	Pvalue	Cash flows	P. Value	Cash flows	P. Value
1	0.833		402000	334866	293000	244069	189000	157437
2	0.694		374000	259556	264000	183216	130000	90220
3	0.579		342000	198018	234000	135486	95000	55005
Present value of Net cashflows		792440		562771		302662
			Maint. Equip	Ramp facilities	Computer Net.
Present value of cashflows	792440		562771		302662
Less: Initial investment	825458		525954		275147
Net present value		-33018		36817		27515
Present value iNdex
			Maint. Equip	Ramp facilities	Computer Net.
Present value of cashflows	792440		562771		302662
Divide: investment		825458		525954		275147
Present value index		0.96		1.07		1.1
Ramp faclities has largest NPV.
It returns less present value per dollar than Computer network.
The present value index of Maintenance equipment is less than 1.