Question

1. A new operating system for an existing machine is expected to cost $531,000 and have a useful life of six years. The system yields an incremental after-tax income of $155,000 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $15,000.
2. A machine costs $390,000, has a $22,000 salvage value, is expected to last eight years, and will generate an after-tax income of $65,000 per year after straight-line depreciation.

Assume the company requires a 11% rate of return on its investments. Compute the net present value of each potential investment. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided.)

Answer 1

Requirement (a)

EXPECTED CASH FLOW
Net Income	$155,000
Add: Straight Line Depreciation [($531,000 - $15,000) / 6 Years]	$86,000
Expected Cash Flow	$241,000

Net Present Value

Chart values are based on
	n =	6 Years
	i =	11.00%
Cash flow	Select chart	Amount	PV Factor	Present Value
Annual cash flow	Present value of annuity of $1	241,000	4.2305	1,019,550.50
Residual Value	Present Value of $1	15,000	0.5346	8,019.00
	Present Value of cash inflows			1,027,569.50
	Immediate cash outflows			(531,000.00)
	Net Present Value			496,569.50

Requirement (b)

EXPECTED CASH FLOW
Net Income	$65,000
Add: Straight Line Depreciation [($390,000 - $22,000) / 8 Years]	$46,000
Expected Cash Flow	$111,000

Net Present Value

Chart values are based on
	n =	8 Years
	i =	11.00%
Cash flow	Select chart	Amount	PV Factor	Present Value
Annual cash flow	Present value of annuity of $1	111,000	5.1461	571,217.10
Residual Value	Present Value of $1	22,000	0.4339	9,545.80
	Present Value of cash inflows			580,762.90
	Immediate cash outflows			(390,000.00)
	Net Present Value			190,762.90

NOTE

-The formula for calculating the Present Value Annuity Inflow Factor (PVIFA) is [{1 - (1 / (1 + r)ⁿ} / r], where “r” is the Discount Rate/Cost of capital and “n” is the number of years.

-The formula for calculating the Present Value Inflow Factor (PVIF) is [1 / (1 + r)ⁿ], where “r” is the Discount Rate/Cost of capital and “n” is the number of years.