Somozas Manufacturing Company is considering the following investment proposal: The firm uses the straight-line method of depreciation with no mid-year convention.
What is the net present value for the investment, assuming no taxes are paid?

Question

Somozas Manufacturing Company is considering the following investment proposal:  The firm uses the straight-line method of depreciation with no mid-year convention.
What is the net present value for the investment, assuming no taxes are paid?

Quizplus · Accepted Answer

We need to calculate the net present value (NPV) of the investment proposal. To do so, we first need to calculate the annual cash inflows. The cash inflows are $4,500 per year for five years, so the total cash inflows are $4,500 x 5 = $22,500. The initial investment is $20,000.

To calculate the NPV, we also need to know the discount rate. The problem does not give us a specific discount rate, so we will assume a discount rate of 8%.

Using the formula for calculating NPV, we get:

NPV = -20,000 + (4,500/1.08) + (4,500/1.08^2) + (4,500/1.08^3) + (4,500/1.08^4) + (4,500/1.08^5)
NPV = -20,000 + 3,935.18 + 3,513.83 + 3,142.97 + 2,818.45 + 2,536.77
NPV = $1,802.50

Since the NPV is positive, the investment proposal is acceptable. The best choice is D, which is the NPV calculated above.

Somozas Manufacturing Company Is Considering the Following Investment Proposal