Question

Net Present Value Method and Present Value Index

MVP Sports Equipment Company is considering an investment in one of two machines. The sewing machine will increase productivity from sewing 150 baseballs per hour to sewing 270 per hour. The contribution margin is $0.52 per baseball. Assume that any increased production of baseballs can be sold. The second machine is an automatic packing machine for the golf ball line. The packing machine will reduce packing labor cost. The labor cost saved is equivalent to $23 per hour. The sewing machine will cost $434,400, have a 10-year life, and will operate for 1,400 hours per year. The packing machine will cost $134,100, have a 10-year life, and will operate for 1,200 hours per year. MVP seeks a minimum rate of return of 12% on its investments.

Present Value of an Annuity of $1 at Compound Interest
Year	6%	10%	12%	15%	20%
1	0.943	0.909	0.893	0.870	0.833
2	1.833	1.736	1.690	1.626	1.528
3	2.673	2.487	2.402	2.283	2.106
4	3.465	3.170	3.037	2.855	2.589
5	4.212	3.791	3.605	3.353	2.991
6	4.917	4.355	4.111	3.785	3.326
7	5.582	4.868	4.564	4.160	3.605
8	6.210	5.335	4.968	4.487	3.837
9	6.802	5.759	5.328	4.772	4.031
10	7.360	6.145	5.650	5.019	4.192

a. Determine the net present value for the two machines. Use the table of present values of an annuity of $1 above. Round to the nearest dollar.

	Sewing Machine	Packing Machine
Present value of annual net cash flows	$	$
Less amount to be invested	$	$
Net present value	$	$

b. Determine the present value index for the two machines. If required, round your answers to two decimal places.

	Sewing Machine	Packing Machine
Present value index

c. If MVP has sufficient funds for only one of the machines and qualitative factors are equal between the two machines, in which machine should it invest? (If both present value indexes are the same, either machine will grade as correct.)
Packing Machine

Answer 1

a.
Annual net cash flow of Sewing Machine
Incremental Production per hour (270 - 150)	120
Contribution Margin per baseball	$0.52
Annual hours of machine operations	1400	hours
Annual net cash flow = 120 x $0.52 x 1400	$87,360.00
Annual net cash flow of packing Machine
Labour cost saved per hour	$23	per hour
Annual hours of machine operations	1200	hours
Annual net cash flow = 23x 1200	$27,600.00
	Sewing Machine	Packing Machine
Annual net cash flow	$87,360.00	$27,600.00
Present value of an annuity of $1 at 12% for 10 years	5.65	5.65
Present value of annual net cash flows (Annual cash flow x PVA @12% for 10 years	$493,584.00	$155,940.00
Less: Amount to be invested	($434,400)	($134,100)
Net present value	$59,184.00	$21,840.00
b.
	Sewing Machine	Packing Machine
Present value index = Present Value of Net Cash Flows / Amount to be invested	1.14	1.16
Present value index of the sewing machine = 493,584.00/434,400	1.136=1.14
Present value index of the packing machine= 155940/134,100	1.1628=1.16

C)

If MVP has sufficient funds for only one of the machines and qualitative factors are equal between the two machines, in which machine should it invest? (If both present value indexes are the same, either machine will grade as correct.)

Ans: If the Present value of Index is Equal and Qualitative factors are also equal then we should choose the highest Profit making machine

so Here

Sewing Machine has High Profit compared to Packing Machine

So

MVP Sports Equipment company shall Invest in Sewing machine because of High Profit compared to Packing Machine