Question

Roshek Company is considering a capital investment proposal. Estimates regarding the project are provided below: I nitial Investment: $85,000 Annual Net income: $5,750 Estimated Useful Life: 5 years Salvage Value: $10,000 The Company requires a 9% rate of return on all new investments. a. The Payback Period (rounded) for this proposal is? b. The Net Present Value (rounded) for this proposal is? c. The Annual Rate of Return (rounded) for this proposal is?

Answer 1

Initial Investment = $85,000
Salvage Value = $10,000
Useful Life = 5 years

Annual Depreciation = (Initial Investment - Salvage Value) / Useful Life
Annual Depreciation = ($85,000 - $10,000) / 5
Annual Depreciation = $15,000

Annual Net Cash flows = Annual Net Income + Annual Depreciation
Annual Net Cash flows = $5,750 + $15,000
Annual Net Cash flows = $20,750

Answer 1.

Payback Period = Initial Investment / Annual Net Cash flows
Payback Period = $85,000 / $20,750
Payback Period = 4.10 years

Answer 2.

Required Return = 9%

Net Present Value = -$85,000 + $20,750 * PVA of $1 (9%, 5) + $10,000 * PV of $1 (9%, 5)
Net Present Value = -$85,000 + $20,750 * 3.88965 + $10,000 * 0.64993
Net Present Value = $2,209.54

Answer 3.

Average Investment = (Initial Investment + Salvage Value) / 2
Average Investment = ($85,000 + $10,000) / 2
Average Investment = $47,500

Annual Rate of Return = Annual Net Income / Initial Investment
Annual Rate of Return = $5,750 / $47,500
Annual Rate of Return = 12.11%