Question

Pro Physical Therapy is considering purchasing a new machine that will allow them to do preliminary MRIs for their patients. This project will require an initial outlay of $78,635. The machine will have an expected life of 5 years and will generate additional cash flows to the company as a whole of $21,500 at the end of each year over its 5 year life. In addition to the $21,500 cash flow from operations, during the 5th and final year there will be additional cash flow of $13,200 at the end of the 5th year associated with the salvage value of the machine, making the cash flow in year 5 equal to $34,700. Given a required rate of return of 12%, calculate the following: a) IRR (6pts) b) NPV (6pts) c) PI (6pts) d) Is the project acceptable and why? (2pts)

Answer 1

a

Project
IRR is the rate at which NPV =0
IRR	19.80%
Year	0	1	2	3	4	5
Cash flow stream	-78635.000	21500.000	21500.000	21500.000	21500.000	56200.000
Discounting factor	1.000	1.198	1.435	1.720	2.060	2.468
Discounted cash flows project	-78635.000	17945.900	14979.317	12503.131	10436.276	22770.376
NPV = Sum of discounted cash flows
NPV Project =	0.000
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
IRR=	19.80%

b

Project
Discount rate	12.000%
Year	0	1	2	3	4	5
Cash flow stream	-78635	21500	21500	21500	21500	56200
Discounting factor	1.000	1.120	1.254	1.405	1.574	1.762
Discounted cash flows project	-78635.000	19196.429	17139.668	15303.275	13663.639	31889.389
NPV = Sum of discounted cash flows
NPV Project =	18557.40
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

c

PI= (NPV+initial inv.)/initial inv.

=(18557.4+78635)/78635

1.24

d

Accept project as IRR is more than discount rate

Accept project as NPV is positive

Accept project as PI is more than 1