Dexter Company is considering purchasing equipment.The equipment will produce the following cash flows: $$\begin{array} { l l }
\text { Year 1 } & \$ 120,000 \
\text { Year 2 } & \$ 200,000
\end{array}$$ Dexter requires a minimum rate of return of 10%.What is the maximum price Dexter should pay for this equipment?
A)$274,381
B)$165,290
C)$320,000
D)$160,000

Question

Dexter Company is considering purchasing equipment.The equipment will produce the following cash flows: $$\begin{array} { l l } 
\text { Year 1 } & \$ 120,000 \
\text { Year 2 } & \$ 200,000
\end{array}$$ Dexter requires a minimum rate of return of 10%.What is the maximum price Dexter should pay for this equipment?
A)$274,381
B)$165,290
C)$320,000
D)$160,000

Quizplus · Accepted Answer

The maximum price Dexter should pay is the present value of the cash flows at the required rate of return. The present value of Year 1 cash flow is $120,000 / (1+0.10) = $109,091, and Year 2 is $200,000 / (1+0.10)^2 = $165,290. Adding these gives $274,381.

Dexter Company Is Considering Purchasing Equipment Year 1 $120,000 Year 2 $200,000\begin{array} { l l } \text { Year 1 } & \$ 120,000 \\\text { Year 2 } & \$ 200,000\end{array} Year 1 Year 2 ​$120,000$200,000​

Dexter Company Is Considering Purchasing Equipment $\begin{array} { l l } \text { Year 1 } & \$ 120,000 \\\text { Year 2 } & \$ 200,000\end{array}$