O\'Mally Department Stores is considering two possible expansion plans. One prop
ID: 2593602 • Letter: O
Question
O'Mally Department Stores is considering two possible expansion plans. One proposal involves opening 5 stores in Indiana at the cost of $1,850,000. Under the other proposal, the company would focus on Kentucky and open 6 stores at a cost of $2,600,000. The following information is available: Indiana proposal Required investment Estimated life Estimated residual life Estimated annual cash inflows over the next 10 years Required rate of return $1,850.000 10 years $60.000 S800.000 10% Kentucky proposal $2,600,000 10 years $50,000 $600,000 10% O'Mally should choose (Click the icon to view the present value of $1 table.) A. The Kentucky proposal which is $753,860 higher than Indiana. O B. The Indiana proposal which is S753,860 higher than Kentucky. ° C. The Kentucky proposal which is $750,000 higher than Indiana. D. The Indian proposal which is $10,000 higher than Kentucky.Explanation / Answer
B.The indiana proposal which is $753,860 greater than kentucky proposal.
First let us calculate the NPV of Indiana proposal,
Present value of estimated annual cashflows over next 10 years = 800,000 * PV of annuity factor @10% for 10 years
=>$800,000 * 6.14457
=>$4,915,656.
Present value of residual value of $60,000 at the end of 10th year
,=>$60,000*PV factors for 10% for 10th year
,=>$60,000 * 0.38554
=>$23,132.40.
Total present value of inflows => $23,132.40 + 4915656
=>$4,938,788.4
Npv of indiana offer =>$4938788.40-1850000
=>$3,088,788.40
Now,
Npv of kentucky proposal
=> [$800,000 *6.14457]+[$50,000*0.38554] - $2,600,000
=>$2,334,933.
Indiana proposal is approximately [$3,088,788 -$2,334,933]
=>$753,860.
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