Aaron Heath is seeking part-time employment while he attends school. He is consi

Question

Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter, he expects demand to stabilize. The following table presents the expected cash flows Year of Operation Cash Inflow Cash Outflow 2019 2020 2021 2022 $25,000 29,000 32,000 32,000 $12,000 16,000 18,000 18,000 In addition to these cash flows, Aaron expects to pay $25,000 for the equipment. He also expects to pay $4,000 for a major overhaul and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $4,000 salvage value and a four year useful life. Aaron desires to earn a rate of return of 8 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.) Required a. Calculate the net present value of the investment opportunity. (Round your intermediate calculations and final answer to 2 decimal places.) b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and whether it should be accepted a. Net present value b. Will the return be above or below the cost of capital? Above Should the investment opportunity be accepted? Accepted

Explanation / Answer

a.Net Present Value : $ 19,097.31

Net present value = Present Value of Cash Inflows - Present Value of Cash Outflows.

Present Value of Cash Inflows :

b.

Year Net Cash Flows PV factor at 8 % Present Values of Cash Flows $ $ 0 (25,000) 1.00000 (25,000) 1 13,000 0.92593 12,037.09 2 9,000 0.85734 7,716.06 3 14,000 0.79383 11,113.62 4 18,000 0.73503 13,230.54 NPV $ 19,097.31

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