Question

The management of Kunkel Company is considering the purchase of a $21,000 machine that would reduce operating costs by $5,000 per year. At the end of the machine's five-year useful life, it will have zero salvage value. The company's required rate of return is 12% Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using table. Required: 1. Determine the net present value of the investment in the machine. 2. What is the difference between the total, undiscounted cash inflows and cash outflows over the entire life of the machine?

Answer 1

Ans:

1.

YEAR	CASH FLOWS(a)	DISCOUNTING @ 12% (b)	PRESENT VALUE ((a)*(b))
0	-21000	1	-21000
1	5000	0.893	4465
2	5000	0.797	3985
3	5000	0.712	3560
4	5000	0.636	3180
5	5000	0.567	2835
		NPV	-2975
	Since NPV is negative, the company should not purchase machine
	Calculation of discounting rates	( 1 / ( 1 + r %)n)
	Year
	1	( 1 / ( 1 + 12%)1)	0.893
	2	( 1 / ( 1 + 12%)2)	0.797
	3	( 1 / ( 1 + 12%)3)	0.712
	4	( 1 / ( 1 + 12%)4)	0.636
	5	( 1 / ( 1 + 12%)5)	0.567

2.

Particulars	Cash Flow	Years	Total Cash Flows
Annual cost savings	$5,000	5	$25,000
Initial investment	($21,000)	1	($21,000)
Net cash flow			$4,000

The Net Undiscounted cash flows are $4000