The management of California Corporation is considering the purchase of a new machine costing $400,000. The company's desired rate of return is 10%. The present value factors for $1 at compound interest of 10% for 1 through 5 years are 0.909, 0.826, 0.751, 0.683, and 0.621, respectively. In addition to the foregoing information, use the following data in determining the acceptability in this situation: The present value index for this investment is:

Question

Quizplus · Accepted Answer

To calculate the present value index, we need to divide the present value of net cash inflows by the initial investment:

PV of net cash inflows = $60,000 x 0.909 + $80,000 x 0.826 + $100,000 x 0.751 + $120,000 x 0.683 + $140,000 x 0.621 = $432,040

PV index = PV of net cash inflows / Initial investment
PV index = $432,040 / $400,000
PV index = 1.08

Since the PV index is greater than 1, the investment is acceptable. However, we need to compare the PV index with the desired rate of return. If the PV index is greater than the desired rate of return, the investment is acceptable. If it is less than the desired rate of return, the investment is not acceptable.

Desired rate of return = 10%
PV index = 1.08

Since the PV index is greater than the desired rate of return, the investment is acceptable. Therefore, the best choice is C.

The Management of California Corporation Is Considering the Purchase of a New