X Company is planning to drop a department that has shown a loss over the past f

Question

X Company is planning to drop a department that has shown a loss over the past few years. Its accountant estimates that the savings from dropping the department will be $19,800 a year for the next 6 years. The accountant also believes that the company will be able to immediately sell some equipment that was used in the department for $18,000. Assuming a discount rate of 5%, what is the net present value of dropping the department?

Present Value of $1.00

Present Value of an Annuity of $1.00

Period 3% 4% 5% 6% 7% 8% 9% 10% 11% 12%    1 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909 0.901 0.893    2 0.943 0.925 0.907 0.890 0.873 0.857 0.842 0.826 0.812 0.797    3 0.915 0.889 0.864 0.840 0.816 0.794 0.772 0.751 0.731 0.712    4 0.888 0.855 0.823 0.792 0.763 0.735 0.708 0.683 0.659 0.636    5 0.863 0.822 0.784 0.747 0.713 0.681 0.650 0.621 0.593 0.567    6 0.837 0.790 0.746 0.705 0.666 0.630 0.596 0.564 0.535 0.507    7 0.813 0.760 0.711 0.665 0.623 0.583 0.547 0.513 0.482 0.452    8 0.789 0.731 0.677 0.627 0.582 0.540 0.502 0.467 0.434 0.404    9 0.766 0.703 0.645 0.592 0.544 0.500 0.460 0.424 0.391 0.361    10 0.744 0.676 0.614 0.558 0.508 0.463 0.422 0.386 0.352 0.322

Explanation / Answer

Statement showing Cash flows Particulars Time PVf@5% Amount PV Cash Outflows(Sale value of Equip)                   -                1.00             (18,000.00)             (18,000.00) PV of Cash outflows=PVCO             (18,000.00) Cash inflows (Savings per year)              1.00          0.9520               19,800.00               18,849.60 Cash inflows (Savings per year)              2.00          0.9070               19,800.00               17,958.60 Cash inflows (Savings per year)              3.00          0.8640               19,800.00               17,107.20 Cash inflows (Savings per year)              4.00          0.8230               19,800.00               16,295.40 Cash inflows (Savings per year)              5.00          0.7840               19,800.00               15,523.20 Cash inflows (Savings per year)              6.00          0.7460               19,800.00               14,770.80 PV of Cash Inflows = PVCI             100,504.80 NPV = PVCI - PVCO               82,504.80 Equipment provides NPV of $82,504.80 If Equipment is dropped company will lost $82,504.80 Thus NPV of dropping is -$82,504.80

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