Comprehensive Financial Statement Analysis Part 2 - Q2 (a) - (b) The yard manage

Question

Comprehensive Financial Statement Analysis Part 2 - Q2 (a) - (b) The yard manager wants to purchase a new machine for $600,000 (total cost including delivery, installation and tax). Estimates it will save $110,000 a year for 7 years, with a residual value of $25,000 after 7 years. Required (a): Using NPV analysis, with the company's required rate of return of 7%, should the purchase be approved? (ignore depreciation tax impact) Show NPV calculation in table format by year or using annuity for years 1 - 7. 7% Year Amount Factor NPV Required (b): Should it still be approved if the required rate is raised to 10% due to increasing interest rates?

Explanation / Answer

(a) NPV = present value of cash inflow - present value of cash outflow

AS NPV is positive $ 8365, so purchase should be approved.

(b)

NOW NPV is negative , so purchase should not be approved.

year amount PV factor (7%) present value (amount *pv factor) 0 600000 1 (600000) 1 110000 .935 102850 2 110000 .873 96030 3 110000 .816 89760 4 110000 .763 83930 5 110000 .713 78430 6 110000 .666 73260 7 110000 .623 68530 7 25000 .623 15575 NPV $ 8365

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