A local government awards a landscaping company a contract worth $1.2 million per year for five years for maintaining public parks.The landscaping company will need to buy some new machinery before they can take on the contract.If the cost of capital is 7%,what is the most that this equipment could cost if the contract is to be worthwhile for the landscaping company?

Question

Quizplus · Accepted Answer

To find the maximum cost of the new machinery that the company can afford, we need to calculate the present value of the contract over the five years. We can use the formula:

PV = C x [1 - (1+r)^(-n)]/r

Where:
PV = Present value of the contract
C = Annual cash inflow (1.2 million)
r = Cost of capital (7% or 0.07)
n = Number of years (5)

Plugging in the values, we get:

PV = 1.2 million x [1 - (1+0.07)^(-5)]/0.07
PV = $4.92 million

Therefore, the maximum cost of the new machinery that the company can afford is $4.92 million. The closest answer choice is C) $4.92 million.

A Local Government Awards a Landscaping Company a Contract Worth