The management of California Corporation is considering the purchase of a new machine costing $400,000.The company's desired rate of return is 10%.The present value factors for $1 at compound interest of 10% for 1 through 5 years are 0.909,0.826,0.751,0.683,and 0.621,respectively.In addition to the foregoing information,use the following data in determining the acceptability of this investment:
The present value index for this investment is

Question

The management of California Corporation is considering the purchase of a new machine costing $400,000.The company's desired rate of return is 10%.The present value factors for $1 at compound interest of 10% for 1 through 5 years are 0.909,0.826,0.751,0.683,and 0.621,respectively.In addition to the foregoing information,use the following data in determining the acceptability of this investment: ​
 The present value index for this investment is

Quizplus · Accepted Answer

To calculate the present value index, we divide the present value of net cash inflows by the initial investment.

Net Annual Cash Inflow = Annual Cash Inflow - Annual Depreciation

Annual Cash Inflow = $100,000 
Annual Depreciation = $400,000 / 5 years = $80,000

Therefore, Net Annual Cash Inflow = $20,000

Using the present value factors, we can calculate the present value of net cash inflows as follows:

Year 1: $20,000 x 0.909 = $18,180 
Year 2: $20,000 x 0.826 = $16,520 
Year 3: $20,000 x 0.751 = $15,020 
Year 4: $20,000 x 0.683 = $13,660 
Year 5: $20,000 x 0.621 = $12,420

Then, we add up the present values of net cash inflows and divide by the initial investment:

Present Value of Net Cash Inflows = $18,180 + $16,520 + $15,020 + $13,660 + $12,420 = $75,800

Present Value Index = $75,800 / $400,000 = 1.14

Since the present value index is greater than 1, the investment is acceptable. Therefore, the best choice is C.

The Management of California Corporation Is Considering the Purchase of a New