CBOE Manufacturing is trying to decide between two different conveyor belt syste

Question

CBOE Manufacturing is trying to decide between two different conveyor belt systems. System A costs $438,000, has a 6-year life, and requires $140,000 in pretax annual operating costs. System B costs $556,000, has a 8-year life, and requires $81,000 in pretax annual operating costs. Both systems are to be depreciated straight-line to zero over their lives and will have zero salvage value. Whichever project is chosen, it will not be replaced when it wears out. If the tax rate is 34 percent and the discount rate is 16 percent, the NPV for project A is $ and the NPV for project B is $ . Therefore, the firm should choose project (Click to select)AB.

Explanation / Answer

Cash inflow for System A is 438000/6+140000=213000;;

So NPV of System A: -438000+(213000/(1+16%)+213000/(1+16%)^2+213000/(1+16%)^3+213000/(1+16%)^4+213000/(1+16%)^5+213000/(1+16%)^6)=$346848.7;;

Cash inflow for System B is 556000/8+81000=150500;;

So NPV of System A: -556000+(150500/(1+16%)+150500/(1+16%)^2+150500/(1+16%)^3+150500/(1+16%)^4+150500/(1+16%)^5+150500/(1+16%)^6+150500/(1+16%)^7+150500/(1+16%)^8)=$97710.43;;

According to the above information CBOE has to choose Project A because it yields higher NPV than Project B

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