Ursus, Inc., is considering a project that would have a eight-year life and woul

Question

Ursus, Inc., is considering a project that would have a eight-year life and would require a $1,530,000 investment in equipment. At the end of eight years, the project would terminate and the equipment would have no salvage value. The project would provide net operating income each year as follows (Ignore income taxes.): Sales $ 2,100,000 Variable expenses 1,400,000 Contribution margin 700,000 Fixed expenses: Fixed out-of-pocket cash expenses $ 360,000 Depreciation 150,000 510,000 Net operating income $ 190,000 Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using the tables provided. All of the above items, except for depreciation, represent cash flows. The company's required rate of return is 11%.

Explanation / Answer

Computation of NPV:

Cash inflow per year = Net operating income + Depreciation

= $190000 + 150000 = $340000

Present value of cash inflows = Cash inflow per year x PVA11%,8

= $340000 x 5.41612

= $1841481

NPV = Present value of cash inflows - Initial investment

= $1841481 - $1530000

= $311481

The company should accept the project as the NPV is positive.

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