Drake Corporation is reviewing an investment proposal. The initial cost and esti
ID: 2588109 • Letter: D
Question
Drake Corporation is reviewing an investment proposal. The initial cost and estimates of the book value of the investment at the end of each year, the net cash flows for each year, and the net income for each year are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is equal to its book value. There would be no salvage value at the end of the investment’s life.
Investment Proposal
Year
Initial Cost
and Book Value
Annual
Cash Flows
Annual
Net Income
0
$105,900
1
69,200
$44,600
$7,900
2
43,000
39,700
13,500
3
21,800
34,400
13,200
4
6,400
30,200
14,800
5
0
24,600
18,200
Drake Corporation uses an 11% target rate of return for new investment proposals.
Click here to view PV table.
(a)
What is the cash payback period for this proposal? (Round answer to 2 decimal places, e.g. 10.50.)
Cash payback period
years
(b)
What is the annual rate of return for the investment? (Round answer to 2 decimal places, e.g. 10.50.)
Annual rate of return for the investment
%
(c)
What is the net present value of the investment? (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round answer to 0 decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)
Net present value
$
Investment Proposal
Year
Initial Cost
and Book Value
Annual
Cash Flows
Annual
Net Income
0
$105,900
1
69,200
$44,600
$7,900
2
43,000
39,700
13,500
3
21,800
34,400
13,200
4
6,400
30,200
14,800
5
0
24,600
18,200
Explanation / Answer
a Payback Period Year Cash Flow Cummulative Cash Flow Year 0 -105900 -105,900 Year 1 44600 -61,300 Year 2 39700 -21,600 Year 3 34400 12,800 Year 4 30200 43,000 Year 5 24600 67,600 Pay back Period 2+21600/34400 Pay back Period 2.628 Years formula for payback period = X+Y/Z X is the last period with negetive cummulative cash flow Y is the absolute value of cummulative cash flow at end of period X Z is the total cash flow during the perioed after A b Annual rate of return Average Income/Initial Investment Year Net Income Year 1 7,900 Year 2 13,500 Year 3 13,200 Year 4 14,800 Year 5 18,200 Total Income 67,600 Avreage Income $13,520 (67600/5 Annual rate of return 13520/105900 Annual rate of return 12.77% c Net Present Value Year Cash Flow NPV Year 0 -105900 -105,900 Year 1 44600 40,180 Year 2 39700 32,221 Year 3 34400 25,153 Year 4 30200 19,894 Year 5 24600 14,599 Net Present Value $26,147 NPV Cash Flow*(1+r)^-t For Example year 1 44600*(1+0.11)^-1
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