Byron 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 $100,000. The equipment will have an initial cost of $400,000 and have a 5-year life. The salvage value of the equipment is estimated to be $75,000. If the hurdle rate is 15%, what is the approximate net present value? Ignore income taxes.

Question

Quizplus · Accepted Answer

To calculate the net present value, we need to discount the cash flows using the hurdle rate of 15%. Using a financial calculator or spreadsheet software, we can calculate the net present value as follows:

Year 0: -$400,000 (initial investment)
Years 1-5: $100,000 (annual cash flow)
Salvage value: $75,000

NPV = -$400,000 + ($100,000/1.15) + ($100,000/1.15^2) + ($100,000/1.15^3) + ($100,000/1.15^4) + ($100,000/1.15^5) + ($75,000/1.15^5)
NPV = -$27,490

The net present value is negative, indicating that the investment would not be profitable and should not be made. Choice A is the best answer.