Question

A company is considering the purchase of new equipment for $87,000. The projected annual net cash flows are $34,400. The machine has a useful life of 3 years and no salvage value. Management of the company requires a 8% return on investment. The present value of an annuity of $1 for various periods follows:

Period Present value of an annuity of $1 at 8%
1 0.9259
2 1.7833
3 2.5771

What is the net present value of this machine (rounded to the nearest whole dollar) assuming all cash flows occur at year-end?

Answer 1

The NPV for the equipment is $1,653 after rounding to the nearest whole dollar.

Step-by-step explanation:

To find the NPV, we need to discount the projected annual net cash flows of the equipment to their present value using the given return rate and then subtract the initial cost.

Since the equipment has a useful life of 3 years, we'll use the present value of an annuity factor for a period of 3 years at 8%.

The given annuity factor for 3 years at 8% is 2.5771.

The calculation would be:

Present Value of Cash Flows = Annual Cash Flow × Present Value Annuity Factor

Present Value of Cash Flows = $34,400 × 2.5771

Present Value of Cash Flows = $88,652.64 (calculated value)

NPV = Present Value of Cash Flows - Initial Investment

NPV = $88,652.64 - $87,000

NPV = $1,652.64

Therefore, the net present value of the machine, rounded to the nearest whole dollar, is $1,653.