As a financial analyst at CPW International, you are evaluating an option to pur

Question

As a financial analyst at CPW International, you are evaluating an option to purchases an equipment to expand the product line for the company. There are two machines meeting the company's investment criteria, Machine H and Machine L. Machine H costs more than Machine L but has the flexibility to be modifies if the demand for product is low while machine L cannot be modified. The following is the financial about these two machines. The project with Machine L is worth $30 million today and will be $40 million one year from today with high demand and $20 million with low demand. Machine H costs $4 million more but can be modified and sold off for $25 million if the demand is low. Is Machine H is worth more than $4 million in value, than machine L? (Assume 10% of interest rate. Please show your work)

Explanation / Answer

Year Machine L Machine H Incremental PVF @ 10% Present Value 0 -30 -34 -4 1 -4 1 20 25 5 0.909 4.55 NPV 0.55 Yes, since incremental NPV is positive by 0.55M Note: Only low scenario is enough for decision because its flexibility can adapt as per situation and will be more than L worth

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