Question

Question 4

Harper Mining Ltd is considering to invest in one of the two following equipment. Each equipment will last 5 years and have no salvage value at the end. The company’s required rate of return for all investment projects is 7%. The cash flows of the projects are provided below.

	Equipment 1	Equipment 2
Cost	$150,000	$165,000
Future Cash Flows Year 1 Year 2 Year 3 Year 4 Year 5	56,000 53,000 65,000 55,000 43,000	67,000 74,000 62,000 65,000 53,000

Required: a) Identify which option of equipment should the company accept based on net present value (NPV) method. (Note: All answers should be rounded up to 2 decimal places) ANSWER: b) Identify which option of equipment should the company accept based on discounted pay back method.

Answer 1

Solution:-

To Calculate NPV of the Project-

NPV of the Project is accepted when it is equal to or greater than zero. NPV is higher the Better. Hence, Accept Equipment 2.

To Calculate Discounted Payback Period-

Discounted Payback Period Formula =

Equipment 1-

Discounted Payback Period of Equipment 1
Year	Cash flow	Discounting Factor @12%	Discounted Cash flows	Cummulative Discounted Cash flows
0	-150000	1.00	-150000
1	56000	0.935	52336.45	52336.45
2	53000	0.873	46292.25	98628.70
3	65000	0.816	53059.36	151688.06
4	55000	0.763	41959.24	193647.30
5	43000	0.713	30658.41	224305.71

Discounted Payback Period =

Discounted Payback Period = 2.97 years

Equipment 2-

Discounted Payback Period of Equipment 2
Year	Cash flow	Discounting Factor @12%	Discounted Cash flows	Cummulative Discounted Cash flows
0	-165000	1.00	-165000
1	67000	0.935	62616.82	62616.82
2	74000	0.873	64634.47	127251.29
3	62000	0.816	50610.47	177861.76
4	65000	0.763	49588.19	227449.95
5	53000	0.713	37788.27	265238.21

Discounted Payback Period =

Discounted Payback Period = 2.75 years

Discounted Payback Period is lower the Better. Hence Accept Equipment 2.

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