Drake Corporation is reviewing an investment proposal. The initial cost and esti
ID: 2803635 • Letter: D
Question
Drake Corporation is reviewing an investment proposal. The initial cost and estimates of the book value of the investment at the end of each year, the net cash flows for each year, and the net income for each year are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is equal to its book value. There would be no salvage value at the end of the investment’s life.
Drake Corporation uses an 11% target rate of return for new investment proposals.
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(a)
What is the cash payback period for this proposal? (Round answer to 2 decimal places, e.g. 10.50.)
(b)
What is the annual rate of return for the investment? (Round answer to 2 decimal places, e.g. 10.50.)
(c)
What is the net present value of the investment? (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round answer to 0 decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)
and Book Value Annual
Cash Flows Annual
Net Income 0 $104,500 1 70,600 $44,700 $10,800 2 41,100 39,400 9,900 3 21,700 34,700 15,300 4 6,700 29,400 14,400 5 0 25,400 18,700
Explanation / Answer
(a) calculation of Payback period Year cash inflow Cumulative cash flow 1 44700 44700 2 39400 84100 3 34700 118800 4 29400 148200 5 25400 173600 payback Period =2 years +[(104500-84100)/34700] payback Period =2 years +0.59 years =2.59 years (b) Annual rate of return on Investment Annual rate of return on Investment = Average net income/ Initial investment Average net Income =44700+39400+34700+29400+25400 /5years =$34720 Annual rate of return =$34720/104500 *100 =33.22% © Net present value of the investment Year cash Flow Present value factor at 11% Present value of cash flows 0 -104500 1 -104500 1 44700 0.90090 40270.27 2 39400 0.81162 31977.92 3 34700 0.73119 25372.34 4 29400 0.65873 19366.69 5 25400 0.59345 15073.66 Net Present Value 27561
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