Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter, he expects demand to stabilize. The following table presents the expected cash flows: Year of Operation Year 1 Year 2 Year 3 Year 4 Cash Inflow Cash Outflow $ 9,900 11,000 $12,600 19,000 22,300 22,300 13,500 13,500 In addition to these cash flows, Aaron expects to pay $21,300 for the equipment. He also expects to pay $2,900 for a major overhaul and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,400 salvage value and a four year useful life. Aaron desires to earn a rate of return of 9 percent. (PV of $1 and PVA of 5) (Use appropriate factor(s) from the tables provided.) Required a. Calculate the net present value of the investment opportunity (Negative amount should be indicated by a minus sign. Round intermediate calculations and final answer to 2 decimal places.) b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and whether it should be accepted.
Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter, he expects demand to stabilize. The following table presents the expected cash flows: Year of Operation Year 1 Year 2 Year 3 Year 4 Cash Inflow Cash Outflow $ 9,900 11,000 $12,600 19,000 22,300 22,300 13,500 13,500 In addition to these cash flows, Aaron expects to pay $21,300 for the equipment. He also expects to pay $2,900 for a major overhaul and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,400 salvage value and a four year useful life. Aaron desires to earn a rate of return of 9 percent. (PV of $1 and PVA of 5) (Use appropriate factor(s) from the tables provided.) Required a. Calculate the net present value of the investment opportunity (Negative amount should be indicated by a minus sign. Round intermediate calculations and final answer to 2 decimal places.) b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and whether it should be accepted.
Chapter11: Capital Budgeting Decisions
Section: Chapter Questions
Problem 1PA: Your company is planning to purchase a new log splitter for is lawn and garden business. The new...
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Transcribed Image Text:Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will
enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the
service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter,
he expects demand to stabilize. The following table presents the expected cash flows:
Year of
Operation
Year 1
Year 2
Year 3
Year 4
Cash Inflow Cash Outflow
$ 9,900
11,000
$12,600
19,000
22,300
22,300
13,500
13,500
In addition to these cash flows, Aaron expects to pay $21,300 for the equipment. He also expects to pay $2,900 for a major overhaul
and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,400 salvage value
and a four year useful life. Aaron desires to earn a rate of return of 9 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from
the tables provided.)
Required
a. Calculate the net present value of the investment opportunity. (Negative amount should be indicated by a minus sign. Round
intermediate calculations and final answer to 2 decimal places.)
b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and
whether it should be accepted.
a. Net prosent value
b. Will the retum be above or below the cost of capital?
Should the investment opportunity be accepted?
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