FINANCIAL&MANAGERIAL ACCOUNTING(LL)W/AC
FINANCIAL&MANAGERIAL ACCOUNTING(LL)W/AC
15th Edition
ISBN: 9781337955447
Author: WARREN/TAYLOR
Publisher: CENGAGE L
Question
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Chapter 26, Problem 3MAD

a.

To determine

Compute the net present value of the equipment.

a.

Expert Solution
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Explanation of Solution

Net present value method:

Net present value method is used to compare the initial cash outflow of the investment with the present value of its cash inflows. In the net present value, the interest rate is determined by the business based on the net income received from the investment. This is also called as the discounted cash flow method.

Calculate the net present value of the equipment:

ParticularsAmount ($)
Present value of annual net cash flows (1)$4,520,000
Present value of residual value (2)$64,400
Total present value$4,584,400
Amount to be invested($3,000,000)
Net present value$1,584,400

Table (1)

Hence, the net present value of the equipment is $1,584,400.

Working Note 1:

Calculate the present value of annual net cash flows:

Presentvalueofannual net cashflows}=Annual net cashflows×5.650=$800,000×5.650=$4,520,000

Working Note 2:

Calculate the present value of annual net cash flows:

PresentvalueofResidual value}=Residual value×0.322=$200,000×0.322=$64,400

b.

To determine

Compute the net present value of the equipment, assuming 12% desired rate of return for the given annual net cash flows.

b.

Expert Solution
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Explanation of Solution

Calculate the net present value of the equipment:

Estimated Annual Net Cash Flow
ParticularsAmount ($)Amount ($)Amount ($)
Estimated annual net cash flows$400,000 $600,000 $800,000
Multiply: Present value factor from Exhibit 5(×)5.650(×)5.650(×)5.650
Present value of annual net cash flows$2,260,000 $3,390,000 $4,520,000
Present value of residual value (2)$64,400 $64,400 $64,400
Total present value$2,324,400 $3,454,400 $4,584,400
Amount to be invested($3,000,000)($3,000,000)($3,000,000)
Net present value($675,600)$454,400$1,584,400

Table (2)

Hence, the net present value of the equipment for annual net cash flow of $400,000 is ($675,600), for annual net cash flow of $600,000 is $454,400 and for annual net cash flow of $800,000 is $1,584,400.

c.

To determine

Compute the net present value of the equipment, assuming 15% desired rate of return for the given annual net cash flows.

c.

Expert Solution
Check Mark

Explanation of Solution

Calculate the net present value of the equipment:

Estimated Annual Net Cash Flow
ParticularsAmount ($)Amount ($)Amount ($)
Estimated annual net cash flows$400,000 $600,000 $800,000
Multiply: Present value factor from Exhibit 5(×)5.019(×)5.019(×)5.019
Present value of annual net cash flows$2,007,600 $3,011,400 $4,015,200
Present value of residual value (3)$49,400 $49,400 $49,400
Total present value$2,057,000 $3,060,800 $4,064,600
Amount to be invested($3,000,000)($3,000,000)($3,000,000)
Net present value($943,000)$60,800$1,064,600

Table (3)

Hence, the net present value of the equipment for annual net cash flow of $500,000 is ($811,700), for annual net cash flow of $700,000 is $417,300 and for annual net cash flow of $900,000 is $1,646,300.

Working Note 3:

Calculate the present value of annual net cash flows:

PresentvalueofResidual value}=Residual value×0.247=$200,000×0.247=$49,400

d.

To determine

Identify the minimum annual net cash flow required to generate a positive net present value.

d.

Expert Solution
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Explanation of Solution

Calculate the minimum annual net cash flows:

Minimum annual net cash flow}=Initial cost Present value of Residual valuePresent value factor at 12%=$3,000,000$64,4005.650=$2,935,6006.145=$519,575

Hence, the minimum annual net cash flow required to generate a positive net present value is $519,575.

e.

To determine

Interpret the results in parts (a), (b) and (c).

e.

Expert Solution
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Explanation of Solution

Every business desires to get maximum profit with minimum investment. The net cash flow of $800,000 is generated from the investment which has a present value of $1,584,400. This clearly indicates the management could invest in the equipment. However, when there is a decrease in the annual net cash flows there is also a drastic decrease in the present value of the equipment. The annual net cash flow must be above $519,575 to generate a profit by the company.

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Chapter 26 Solutions

FINANCIAL&MANAGERIAL ACCOUNTING(LL)W/AC

Ch. 26 - Prob. 11DQCh. 26 - Prob. 12DQCh. 26 - Average rate of return Determine the average rate...Ch. 26 - Cash payback period A project has estimated annual...Ch. 26 - Prob. 3BECh. 26 - Internal rate of return A project is estimated to...Ch. 26 - Net present valueunequal lives Project 1 requires...Ch. 26 - Average rate of return The following data are...Ch. 26 - Average rate of returncost savings Maui...Ch. 26 - Average rate of returnnew product Hana Inc. is...Ch. 26 - Determine cash flows Natural Foods Inc. is...Ch. 26 - Prob. 5ECh. 26 - Cash payback method Lily Products Company is...Ch. 26 - Prob. 7ECh. 26 - Prob. 8ECh. 26 - Net present value methodannuity for a service...Ch. 26 - Net present value methodannuity Jones Excavation...Ch. 26 - Prob. 11ECh. 26 - Prob. 12ECh. 26 - Net present value method and present value index...Ch. 26 - Average rate of return, cash payback period, net...Ch. 26 - Prob. 15ECh. 26 - Internal rate of return method The internal rate...Ch. 26 - Prob. 17ECh. 26 - Internal rate of return methodtwo projects Munch N...Ch. 26 - Net present value method and internal rate of...Ch. 26 - Identify error in capital investment analysis...Ch. 26 - Prob. 21ECh. 26 - Prob. 22ECh. 26 - Prob. 1PACh. 26 - Cash payback period, net present value method, and...Ch. 26 - Prob. 3PACh. 26 - Net present value method, internal rate of return...Ch. 26 - Alternative capital investments The investment...Ch. 26 - Capital rationing decision for a service company...Ch. 26 - Prob. 1PBCh. 26 - Prob. 2PBCh. 26 - Net present value method, present value index, and...Ch. 26 - Net present value method, internal rate of return...Ch. 26 - Prob. 5PBCh. 26 - Clearcast Communications Inc. is considering...Ch. 26 - San Lucas Corporation is considering investment in...Ch. 26 - Assume San Lucas Corporation in MAD 26-1 assigns...Ch. 26 - Prob. 3MADCh. 26 - Prob. 4MADCh. 26 - Home Garden Inc. is considering the construction...Ch. 26 - Assume Home Garden Inc. in MAD 26-5 assigns the...Ch. 26 - Ethics in Action Danielle Hastings was recently...Ch. 26 - Prob. 4TIFCh. 26 - Prob. 5TIFCh. 26 - Prob. 6TIFCh. 26 - Foster Manufacturing is analyzing a capital...Ch. 26 - Staten Corporation is considering two mutually...Ch. 26 - Prob. 3CMACh. 26 - Prob. 4CMA
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