Assume that Wal-Mart Stores, Inc. has decided to surface and maintain for 10 yea
ID: 2330486 • Letter: A
Question
Assume that Wal-Mart Stores, Inc. has decided to surface and maintain for 10 years a vacant lot next to one of its stores to serve as a parking lot for customers. Management is considering the following bids involving two different qualities of surfacing for a parking area of 11,300 square yards.
Bid A: A surface that costs $5.50 per square yard to install. This surface will have to be replaced at the end of 5 years. The annual maintenance cost on this surface is estimated at 25 cents per square yard for each year except the last year of its service. The replacement surface will be similar to the initial surface.
Bid B: A surface that costs $10.25 per square yard to install. This surface has a probable useful life of 10 years and will require annual maintenance in each year except the last year, at an estimated cost of 10 cents per square yard.
Compute present value of the bids. You may assume that the cost of capital is 10%, that the annual maintenance expenditures are incurred at the end of each year, and that prices are not expected to change during the next 10 years.
Which bid should be accepted by Wal-Mart.
Present value of outflows for Bid A $ Present value of outflows for Bid B $Explanation / Answer
PRESENT VALUE OF CASH FLOWS UNDER BID A
BID A
PRESENT VALUE OF CASH FLOW FOR 11300 SQUARE YARDS
YEAR
RATE PER SQ YARD
CASH OUTFLOW
PV FACTOR
PV OF CASH OUTFLOW
0
5.50
62150
1.0000
62150
1
0.25
2825
0.9091
2568
2
0.25
2825
0.8264
2335
3
0.25
2825
0.7513
2122
4
0.25
2825
0.6830
1930
5
5.50
62150
0.6209
38590
6
0.25
2825
0.5645
1595
7
0.25
2825
0.5132
1450
8
0.25
2825
0.4665
1318
9
0.25
2825
0.4241
1198
10
0.00
0
0.3855
0
TOTAL PRESENT VALUE OF OUT FLOWS
115255
PRESENT VALUE OF CASH FLOWS UNDER BID B
BID B
PRESENT VALUE OF CASH FLOW FOR 11300 SQUARE YARDS
YEAR
RATE PER SQ YARD
CASH OUTFLOW
PV FACTOR
PV OF CASH OUTFLOW
0
10.25
115825
1.0000
115825
1
0.10
1130
0.9091
1027
2
0.10
1130
0.8264
934
3
0.10
1130
0.7513
849
4
0.10
1130
0.6830
772
5
0.10
1130
0.6209
702
6
0.10
1130
0.5645
638
7
0.10
1130
0.5132
580
8
0.10
1130
0.4665
527
9
0.10
1130
0.4241
479
10
0.00
0
0.3855
0
TOTAL PRESENT VALUE OF OUT FLOWS
122333
CONCLUSION -
Present Value of Cash Out Flows Under BID A (i.e. 115255 $) is Less then Present Value of Cash Out Flows Under BID B (i.e. 122333 $). Thus Company Should Select BID A.
NOTES -
1. Year 0 Means Present Day or we Can say Start of the Year 1.
2. In BID A there will be No Maintenance Cost in 5th Year and 10th Year as being last year or its Service.
3. In BID B there will be No Maintenance Cost in 10th Year as being last year or its Service.
4. CASH OUT FLOW
= RATE PER SQ YARD X 11300 SQ YARD
5. PV FACTOR Means Present Value of 1 $ @ 10 % Discounting.
PV Factor = ( 1 / 1.10 )n
(n = No of Year)
6. PV of Cash Out Flow
= Cash Out Flow X PV Factor
BID A
PRESENT VALUE OF CASH FLOW FOR 11300 SQUARE YARDS
YEAR
RATE PER SQ YARD
CASH OUTFLOW
PV FACTOR
PV OF CASH OUTFLOW
0
5.50
62150
1.0000
62150
1
0.25
2825
0.9091
2568
2
0.25
2825
0.8264
2335
3
0.25
2825
0.7513
2122
4
0.25
2825
0.6830
1930
5
5.50
62150
0.6209
38590
6
0.25
2825
0.5645
1595
7
0.25
2825
0.5132
1450
8
0.25
2825
0.4665
1318
9
0.25
2825
0.4241
1198
10
0.00
0
0.3855
0
TOTAL PRESENT VALUE OF OUT FLOWS
115255
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