Exercise 10-6A Determining net present value LO 10-2 Aaron Heath is seeking part-time employment while he...
a. Net present value of the investment opportunity
Year of operation Cash inflow Cash outflow Net cash flows PV factor @ 9% Present value of net cash flows 2019 - $20,000 -$20,000 1 -$20,000 2019 $13,900 $8,600 $5,300 0.9174 $4,862.22 2020 $19,000 $11,100 + $2,700 (overhauling and updating charges) $5,200 0.8417 $4,376.84 2021 $22,300 $12,600 $9,700 0.7722 $7,490.34 2022 $22,300 + $1,200 (salvage value) $12,600 $10,900 0.7084 $7,721.56 Net Present Value of the investment opportunity $4,450.96
Cash outflow in 2019 - It will consist of two outflows. 1st for the purchase of equipment for $20,000 which will be done in the start of the year which makes the present value factor to be 1. 2nd for the cash outflows incurred for tutorial services.
In 2020 - cash outflows will also consist of overhauling and updating charges for the equipment.
Lastly, in the last year of operations, salvage value will be realized from the equipment which will form part of the cash inflows.
b. Will the return be above or below the cost of capital - Above, as the NPV comes out to be positive.
c. Should the investment opportunity be accepted - Accepted, as the NPV is positive, which shows that the investment in the equipment will result in more income above the cost of capital.