Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter, he expects demand to stabilize. The following table presents the expected cash flows: Year of Operation Year 1 Year 2 Year 3 Year 4 Cash Inflow Cash Outflow $14,400 $9,100 19,700 11,600 21,400 21,400 12,500 12,500 In addition to these cash flows, Aaron expects to pay $21,400 for the equipment. He also expects to pay $2,900 for a major overhaul and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,900 salvage value and a four-year useful life. Aaron desires to earn a rate of return of 10 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.) Required a. Calculate the net present value of the investment opportunity. (Negative amount should be indicated by a minus sign. Round intermediate calculations and final answer to 2 decimal places.) b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and whether it should be accepted. a. Net present value b. Will the return be above or below the cost of capital? Should the investment opportunity be accepted? Above Rejected
Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter, he expects demand to stabilize. The following table presents the expected cash flows: Year of Operation Year 1 Year 2 Year 3 Year 4 Cash Inflow Cash Outflow $14,400 $9,100 19,700 11,600 21,400 21,400 12,500 12,500 In addition to these cash flows, Aaron expects to pay $21,400 for the equipment. He also expects to pay $2,900 for a major overhaul and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,900 salvage value and a four-year useful life. Aaron desires to earn a rate of return of 10 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.) Required a. Calculate the net present value of the investment opportunity. (Negative amount should be indicated by a minus sign. Round intermediate calculations and final answer to 2 decimal places.) b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and whether it should be accepted. a. Net present value b. Will the return be above or below the cost of capital? Should the investment opportunity be accepted? Above Rejected
Chapter11: Capital Budgeting Decisions
Section: Chapter Questions
Problem 1PA: Your company is planning to purchase a new log splitter for is lawn and garden business. The new...
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Transcribed Image Text:Aaron Heath is seeking part-time employment while he attends school. He is considering purchasing technical equipment that will
enable him to start a small training services company that will offer tutorial services over the Internet. Aaron expects demand for the
service to grow rapidly in the first two years of operation as customers learn about the availability of the Internet assistance. Thereafter,
he expects demand to stabilize. The following table presents the expected cash flows:
Year of
Operation
Year 1
Year 2
Year 3
Year 4
Cash Inflow
$14,400
19,700
21,400
21,400
Cash Outflow
$ 9,100
11,600
12,500
12,500
In addition to these cash flows, Aaron expects to pay $21,400 for the equipment. He also expects to pay $2,900 for a major overhaul
and updating of the equipment at the end of the second year of operation. The equipment is expected to have a $1,900 salvage value
and a four-year useful life. Aaron desires to earn a rate of return of 10 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from
the tables provided.)
Required
a. Calculate the net present value of the investment opportunity. (Negative amount should be indicated by a minus sign. Round
intermediate calculations and final answer to 2 decimal places.)
b. Indicate whether the investment opportunity is expected to earn a return that is above or below the desired rate of return and
whether it should be accepted.
a. Net present value
b. Will the return be above or below the cost of capital?
Should the investment opportunity be accepted?
Above
Rejected
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