Question

Chapter 11 Sunland, Inc., is considering investing in a new production line for eye drops. Other than investing in the equipment, the company needs to increase its cash and cash equivalents by $10,000, increase the level of inventory by $32,000, increase accounts receivable by $25,000, and increase accounts payable by $5,000 at the beginning of the project. Sunland will recover these changes in working capital at the end of the project 13 years later. Assume the appropriate discount rate is 8 percent. What are the present values of the relevant investment cash flows? (Do not round intermediate calculations. Round answer to 2 decimal places, e.g. 15.25.) Present value $enter the Present value in dollars rounded to 2 decimal places

Answer 1

At the beginning of the project or at year 0, investment cash outflow will be:  increase in cash and cash equivalents + increase in inventory + increase in accounts receivable - increase in accounts payable = $10,000 + $32,000 + $25,000 - $5,000 = $62,000

Increase in current assets is a cash outflow and increase in current liabilities is a cash inflow.

This investment cash outflow of $62,000 will be recovered at the end of the project 13 years later.

Present value of investment cash outflow at the beginning of the project or at year 0 is $62,000 because this investment is done now.

So we need to calculate present value of $62,000 now which is to be recovered at the end of the project 13 years later.

Present value of investment recovery = investment to be recovered/(1+discount rate)^{no. of years}

Present value of investment recovery = $62,000/(1+0.08)¹³ = $62,000/1.08¹³ = $62,000/2.71962372616449667721330688 = $22,797.27