Newport Corp. is considering the purchase of a new piece of equipment. The cost savings from the equipment would result in an annual increase in cash flow of $200,000. The equipment will have an initial cost of $900,000 and have a 6-year life. There is no salvage value for the equipment. If the hurdle rate is 10%, what is the approximate net present value? Ignore income taxes.

Question

Quizplus · Accepted Answer

The net present value is calculated as the present value of the cash inflows minus the present value of the cash outflows. In this case, the cash inflows are the annual increase in cash flow of $200,000, and the cash outflows are the initial cost of the equipment of $900,000. The present value of the cash inflows is calculated as the sum of the present values of each year's cash flow, discounted at the hurdle rate of 10%. The present value of the cash outflows is simply the initial cost of the equipment. The net present value is then calculated as the present value of the cash inflows minus the present value of the cash outflows. In this case, the net present value is approximately negative $28,940.