Woods Manufacturing is considering the purchase of a new sewing machine that costs $16,000.The machine,because of its efficiency,will save about $4,000 in cost each year.The machine is expected to have a salvage value of $3,000 and a life of 6 years.Woods' required rate of return is 12%.What is the machine's net present value?

Question

Quizplus · Accepted Answer

To calculate the net present value (NPV), we need to find the present value (PV) of all cash inflows and outflows associated with the machine.

PV of inflows:
Annual savings = $4,000 
PV of an annuity due with six years at 12% = $4,000 x 4.968 = $19,872

Salvage value = $3,000 
PV of salvage value at the end of year 6 at 12% = $3,000 ÷ (1+0.12)6 = $1,535

PV of outflows: 
Cost of machine = $16,000

Now we can calculate the NPV:

NPV = PV of inflows - PV of outflows

NPV = ($19,872 + $1,535) - $16,000 = $5,407

Since the NPV is positive, the investment is expected to generate a return greater than the required rate of return, and thus the best choice is to proceed with the purchase of the machine. Choice B is the correct answer.

Woods Manufacturing Is Considering the Purchase of a New Sewing