Daniels Corporation is considering the purchase of new equipment costing $30,000. The projected annual after-tax net income from the equipment is $1,200, after deducting $10,000 for depreciation. The revenue is to be received at the end of each year. The machine has a useful life of 3 years and no salvage value. Daniels requires a 12% return on its investments. The present value of an annuity of 1 for different periods follows: What is the net present value of the machine?
A) $24,018.
B) $(3,100).
C) $30,000.
D) $26,900.
E) $(29,520).

Question

Quizplus · Accepted Answer

To calculate the net present value (NPV), we need to find the present value (PV) of the after-tax net income from the equipment for each of the 3 years, and deduct the initial investment of $30,000.

PV of year 1 income = $1,200 / (1 + 0.12)^1 = $1,071.43
PV of year 2 income = $1,200 / (1 + 0.12)^2 = $956.94
PV of year 3 income = $1,200 / (1 + 0.12)^3 = $855.27

Total present value of income = $1,071.43 + $956.94 + $855.27 = $2,883.64

NPV = Total present value of income - Initial investment
NPV = $2,883.64 - $30,000 = -$27,116.36

Since the NPV is negative, it means that the investment will not generate enough returns to meet Daniels' required rate of return of 12%. Therefore, it is not a good choice to purchase the equipment. The answer is B.

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