Munson Machinery is considering the purchase of a machine that will provide a positive cash flow of $26,000 in year 1 and $35,000 in years 2 and 3. The cost of machine disposal is expected to be $1500 at the end of year 3. Munson requires a fourteen percent rate of return on expansion projects of this nature. What is the most Munson should pay for the machine?
A)$72,350
B)$82,479
C)$86,005
D)$94,500

Question

Quizplus · Accepted Answer

The correct answer is A because the most Munson should pay for the machine is $72,350. This is calculated by using the present value formula:PV = CF1 / (1 + r) + CF2 / (1 + r)^2 + CF3 / (1 + r)^3 - Disposal Cost / (1 + r)^3where:PV is the present valueCF1 is the cash flow in year 1CF2 is the cash flow in year 2CF3 is the cash flow in year 3r is the required rate of returnDisposal Cost is the cost of machine disposalPlugging in the values from the question, we get:PV = 26,000 / (1 + 0.14) + 35,000 / (1 + 0.14)^2 + 35,000 / (1 + 0.14)^3 - 1500 / (1 + 0.14)^3PV = $72,350

Munson Machinery Is Considering the Purchase of a Machine That