Question

2. The company is considering a project involving the purchase of new equipment. Change the data area of your worksheet to match the following:

	A	B	C
1	Chapter 8: Applying Excel
2
3	Data
4	Example E
5	Cost of equipment needed	$160,000
6	Working capital needed	$60,000
7	Overhaul of equipment in four years	$5,000
8	Salvage value of the equipment in	$40,000
9	Annual revenues and costs:
10	Sales revenues	$370,000
11	Cost of goods sold	$255,000
12	Out-of-pocket operating costs	$70,000
13	Discount rate	13%
14

a. What is the net present value of the project? (Negative amount should be indicated by a minus sign. Round all other intermediate calculations to nearest whole dollar.)

Net present value ?:____________

b. The internal rate of return is between what two whole discount rates (e.g., between 10% and 11%, between 11% and 12%, between 12% and 13%, between 13% and 14%, etc.)?

the international rate of return is between _______and _______

c. Reset the discount rate to 13%. Suppose the salvage value is uncertain. How large would the salvage value have to be to result in a positive present value?

min. salvage value required to generate a postive present value_______________-

Answer 1

The cash flows for the project for the given duration of 4 years is:

Particulars Year 0 Year 1 Year 2 Year 3 Year 4 Cost of equipment -$160,000 Working Capital -$60,000 $370,000 $370,000 $370,000 $370,000 -$255,000 -$255,000 -$255,000 -$255,000 -$70,000 -$70,000 -$70,000 -$70,000 Working Capital $60,000 Machine Overhaul -$5,000 Salvage Value $40,000 Total Yearly Cashflow -$220,000 $45,000 $45,000 $45,000 $140,000

Answer a)

Given Discount rate of 13%. We calculate the present value of cash flows and sum cashflows of all years to get net present value of the project.

Particulars Year 0 Year 1 Year 2 Year 3 Year 4

Present Value Cashflow          -220,000                39,823                35,242                31,187                85,865 NPV              -27,884

b) To calculate Internal rate of return we have to find the exact discount rate at which NPV becomes 0. This is largely a hit & trial process

NPV at discount rate of 8% is -1,126 while NPV at discount rate of 7% is +4,900 hence NPV is between 7% and 8%. exact NPV is 7.8%

c) Usicung a similiar Hit & Trial approach we change the salvage values in yealry cash flows and see the effect on NPV. Curretnly slavage value is 40,000. Keeping salvage value at 60,000 we get an NPV of -15,167. Keeping Salvage value of 80,000 we get an NPV of -3,351. Hence keeping a minimum salvage value of approx 85,465 we will have a positive NPV of 1