Debby’s Dance Studios is considering the purchase of new sound equipment that wi

Question

Debby’s Dance Studios is considering the purchase of new sound equipment that will enhance the popularity of its aerobics dancing. The equipment will cost $34,500. Debby is not sure how many members the new equipment will attract, but she estimates that her increased annual cash flows for each of the next five years will have the following probability distribution. Debby’s cost of capital is 13 percent. UseAppendix D for an approximate answer but calculate your final answers using the formula and financial calculator methods.

  

What is the expected net present value? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places. )

Debby’s Dance Studios is considering the purchase of new sound equipment that will enhance the popularity of its aerobics dancing. The equipment will cost $34,500. Debby is not sure how many members the new equipment will attract, but she estimates that her increased annual cash flows for each of the next five years will have the following probability distribution. Debby’s cost of capital is 13 percent. UseAppendix D for an approximate answer but calculate your final answers using the formula and financial calculator methods.

Cash Flow Probability $ 3,760 .2 5,760 .4 7,950 .3 10,050 .1 a. What is the expected value of the cash flow? The value you compute will apply to each of the five years.

  

  Expected Cash Flow $   
b.

What is the expected net present value? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places. )

  Net Present Value $   

c. Should Debby buy the new equipment? Yes No

Explanation / Answer

a. Expected cash flow             $ 6,446

b. Net Present value                    (-) $ 11,829.42

c. No

Due to negative NPV, should not buy the equipment

Expected value of cash flow computed as follow: Cash flow x Probability = Expected Cash flow 3760 0.2 752 5760 0.4 2304 7950 0.3 2385 10050 0.1 1005 Total expected cash flow each year 6446 Thus, expected cash flow is $ 6,446

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