Roberts III Corporation is considering an investment in special-purpose equipmen

Question

Roberts III Corporation is considering an investment in special-purpose equipment to enable the company to obtain a four-year government contract for the manufacture of a special item. The equipment costs $188,000 and would have no salvage value when the contract expires at the end of the four years. Estimated annual operating results of the project are as follows:

  

   

All revenue and all expenses other than depreciation will be received or paid in cash in the same period as recognized for accounting purposes.

  

Compute the payback period for Bowman's proposal to undertake the contract work:

  

  

Compute the return on average investment for Bowman's proposal to undertake the contract work: (Round your answer to 1 decimal place. Omit the "%" sign in your response.)

  

  

Compute the net present value of the proposal to undertake contract work, discounted at an annual rate of 12 percent. (Refer to annuity table in Exhibit 26-4.) (Round your "PV factor" to 3 decimal places. Omit the "$" sign in your response.)

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  Revenue from contract sales $ 302,000   Expenses other than depreciation $ 208,000   Depreciation (straight-line basis) 55,000 (263,000 )   Increase in net income from contract work $ 39,000

Explanation / Answer

Annual Cash Flows = 33000 (Net Income) + 70000 (Depreciation) = 103000

Part A:

Payback Period = 206000/103000 = 2 years

Part B:

Return on Average Investment = 33000/(206000)/2 = 32.04% or 32%

Part C:

NPV = - 206000 + 103000/(1+.12)^1 + 103000/(1+.12)^2 + 103000/(1+.12)^3 + 103000/(1+.12)^4 = 106847

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