Question

Allegience Insurance Company’s management is considering an advertising program that would require an initial expenditure of $177,085 and bring in additional sales over the next five years. The projected additional sales revenue in year 1 is $82,000, with associated expenses of $28,500. The additional sales revenue and expenses from the advertising program are projected to increase by 10 percent each year. Allegience’s tax rate is 30 percent. (Hint: The $177,085 advertising cost is an expense.)

Use Appendix A for your reference. (Use appropriate factor(s) from the tables provided.)

Required:
1. Compute the payback period for the advertising program.
2. Calculate the advertising program’s net present value, assuming an after-tax hurdle rate of 10 percent. (Round your intermediate calculations and final answer to the nearest whole dollar.)

	1. Payback period years 2. Net present value

Answer 1

Solution:-1.

Pay Back Period Calculation
Initial Cash Outflow	$177,085

Annual Cash Inflow
Year	Annual cash Inflow	Annual Expense	Net Cash Inflow	Cumulative Net Annual Cash inflow
1	$82,000.00	$28,500.00	$ 53,500.00	$53,500.00
2	$ 90,200.00	$31,350.00	$ 58,850.00	$1,12,350.00
3	$ 99,220.00	$34,485.00	$ 64,735.00	$1,77,085.00
4	$ 1,09,142.00	$37,933.50	$ 71,208.50	$ 2,48,293.50
5	$ 1,20,056.20	$ 41,726.85	$ 78,329.35	$3,26,622.85
Net Cash Inflow	$ 3,26,622.85

From the above column we can see that we got the initial investment of $ 1,77,085 in the Year 3.So,the pay back period for the investment is 3 Year.

Solution:-2

NPV Calculation
Year	Flow	Present Value	Computation
0	$ -1,77,085.00	$ -1,77,085.00
1	$ 53,500.00	$ 48,636.36	53500/(1.10)
2	$ 58,850.00	$ 48,636.36	58850/(1.10)2
3	$ 64,735.00	$ 48,636.36	64735/(1.10)3
4	$ 71,208.50	$ 48,636.36	71208.5/(1.10)4
5	$ 78,329.35	$ 48,636.36	78329.35/(1.10)5
NPV	$ 66,096.80

Here the Net Present Value is $ 66, 096.8,Since the NPV is in positive the investment is Profitable.Allegience Insurance Company can Invest for this.