Question

Cardinal Company is considering a five-year project that would require a $2,890,000 investment in equipment with a useful life of five years and no salvage value. The company’s discount rate is 12%. The project would provide net operating income in each of five years as follows:

Sales			$	2,739,000
Variable expenses				1,100,000
Contribution margin				1,639,000
Fixed expenses:
Advertising, salaries, and other fixed out-of-pocket costs	$	641,000
Depreciation		578,000
Total fixed expenses				1,219,000
Net operating income			$	420,000

3. What is the present value of the project’s annual net cash inflows? (Round your final answer to the nearest whole dollar amount.)

4. What is the project’s net present value? (Round discount factor(s) to 3 decimal places and final answer to the nearest whole dollar amount.)

13. Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 50%. What was the project’s actual net present value? (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, intermediate calculations and final answer to the nearest whole dollar amount.)

Answer 1

Answer to Question 3:

Annual Net Cash Inflows = Annual Net Operating Income + Annual Depreciation
Annual Net Cash Inflows = $420,000 + $578,000
Annual Net Cash Inflows = $998,000

Discount Rate = 12%
Life of Project = 5 years

Present Value of Annual Net Cash Inflows = $998,000 * PVA of $1 (12%, 5)
Present Value of Annual Net Cash Inflows = $998,000 * 3.605
Present Value of Annual Net Cash Inflows = $3,597,790

Answer to Question 4:

Net Present Value = Present Value of Annual Net Cash Inflows - Initial Investment
Net Present Value = $3,597,790 - $2,890,000
Net Present Value = $707,790

Answer to Question 13:

Variable Expenses = 50% * Sales
Variable Expenses = 50% * $2,739,000
Variable Expenses = $1,369,500

Net Operating Income = Sales - Variable Expenses - Fixed Expenses
Net Operating Income = $2,739,000 - $1,369,500 - $1,219,000
Net Operating Income = $150,500

Annual Net Cash Inflows = Annual Net Operating Income + Annual Depreciation
Annual Net Cash Inflows = $150,500 + $578,000
Annual Net Cash Inflows = $728,500

Present Value of Annual Net Cash Inflows = $728,500 * PVA of $1 (12%, 5)
Present Value of Annual Net Cash Inflows = $728,500 * 3.605
Present Value of Annual Net Cash Inflows = $2,626,243

Net Present Value = Present Value of Annual Net Cash Inflows - Initial Investment
Net Present Value = $2,626,243 - $2,890,000
Net Present Value = -$263,757