The manufacture of folic acid is a competitive business.A new plant costs $100,000 and lasts for three years.The cash flow from the plant is as follows: year 1: +$43,300,year 2: +$43,300,and year 3 = +$58,300.(Assume no taxes.)If the salvage value at the end of year 2 is $40,000,would you scrap the plant at the end of year 2?

Question

Quizplus · Accepted Answer

By the end of year 2, the cash flow from the plant is $86,600 ($43,300 + $43,300), and the salvage value is $40,000. The total cash inflow is $126,600 ($86,600 + $40,000). Since this is greater than the initial cost of the plant ($100,000), it would be more profitable to keep the plant running for the third year, even though the cash flow in year 3 is lower than in the previous years. Therefore, the plant should not be scrapped at the end of year 2.

The Manufacture of Folic Acid Is a Competitive Business