In: Accounting
Problem 11-14A Net Present Value Analysis [LO11-2]
Oakmont Company has an opportunity to manufacture and sell a new product for a four-year period. The company’s discount rate is 17%. After careful study, Oakmont estimated the following costs and revenues for the new product: |
Cost of equipment needed | $ | 165,000 | |
Working capital needed | $ | 67,000 | |
Overhaul of the equipment in two years | $ | 10,000 | |
Salvage value of the equipment in four years | $ | 13,000 | |
Annual revenues and costs: | |||
Sales revenues | $ | 320,000 | |
Variable expenses | $ | 155,000 | |
Fixed out-of-pocket operating costs | $ | 77,000 | |
When the project concludes in four years the working capital will be released for investment elsewhere within the company. |
Click here to view Exhibit 11B-1 and Exhibit 11B-2, to determine the appropriate discount factor(s) using tables. |
Required: | |
Calculate the net present value of this investment opportunity. (Use the appropriate table to determine the discount factor(s).) |
Net Present Value of the investment = Present Value of total Inflows – Present Value of Total outflows
Step – 1, Present Value of total Inflows
Present Value of total Inflows = Present Value of Annual Inflows + Present Value of Working capital release + present Value of salvage value
= [($320,000 – 155,000 – 77,000) x 2.744] + [$67,000 x 0.534] + [$13,000 x 0.534]
= $2,41,472 + 35,778 + 6,942
= $294,192
Step - 2, Present Value of Total outflows
Present Value of Total outflows = Cost of the Equipment + Working Capital + Present Value of Overhaul of the equipment in two years
= $165,000 + 67,000 + [$10,000 x 0.731]
= $165,000 + 67,000 + 7,310
= $ 239,310
Step – 3, Net Present Value of the Investment
Net Present Value of the Investment = Present Value of total Inflows – Present Value of Total outflows
= $294,192 - $ 239,310
= $44,882
" Therefore, Net Present Value of the Investment = $44,882 “