Question

Walton Company is considering investing in two new vans that are expected to generate combined cash inflows of $30,000 per year. The vans' combined purchase price is $95,000. The expected life and salvage value of each are seven years and $21,100, respectively. Walton has an average cost of capital of 14 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 your 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 cost of capital and whether it should be accepted. a. Nel present value b. Will the return be above or below the cost of capital? Should the investment opportunity be accepted?

Answer 1

(a)

Net present value = present value of annual net cash flow - initial investment

Present value of annual net cash flow = present value of annual $30000 + present value of salvage value $21100

= ($30000 x 4.288) + ($21100 x 0.400)

= $128640 + $8440 = $137080

Where, PVAF(14%, 7) = 4.288

PVF(14%, 7) = 0.400

Therefore,

NPV = $137080 - $95000

= $42080

(b)

as the present value is positive, the return would be above the cost of capital

therefore this investment opportunity should be accepted